What Is Home Equity
Home equity is the difference between the current value of your home and the amount owing on your mortgage. Your available equity is the amount of equity in your home you can access and use. A lender will usually lend you up to 80% of a property’s market value. Subtract from that the amount you owe on your home loan and the remainder is your available equity.
For example, if your home is valued at $700,000 and your mortgage has an outstanding balance of $500,000, you have equity of $200,000. That is you personally own $200,000 value in your home. This is not to be confused with available equity. In Australia, your Lender will require you to maintain 20% clear equity in your home unless you wish to pay Lenders Mortgage Insurance, so the available equity in the example above is $60,000. This is because the property is valued at $700,000 and the Bank requires you to maintain 20% equity. $700,000 – $500,000 mortgage is $200,000 – mandatory equity of $140,000 leaves $60,000 available.
How Does Home Equity Increase
There are essentially two ways that your equity increases.
Paying down the mortgage – Regularly paying extra off your mortgage, even small amounts, can make a significant difference because the extra comes off the principal, meaning that not only is that amount gone, but you will not pay interest on that either. Lump sum payments when you receive a bonus or a refund from the ATO can also help to reduce your mortgage quicker, sometimes saving you months or even years.
Increase in the value of the property – Australia has a very buoyant property market that has been a very reliable investment over many years. Just by maintaining your home and keeping it in good condition, there’s a very good chance that it will grow in value, increasing your equity. Another way to increase your value, and therefore equity in your home is to manufacture it. For instance, adding fences, paths, carrying out small improvements or renovations can also add considerable value to the property. There are many blogs and YouTube videos out there to guide you on which improvements will give you the most bang for your buck.
Why Would You Leverage Your Home Equity
Lenders will consider any good reason to top-up your home loan or leverage your equity if you have the borrowing capacity to service the extra loan amount. There are great reasons to get a home equity loan and not so good reasons. Let’s look at a few.
Medical Expenses
Accessing your equity to pay for medical expenses can provide money at mortgage rates which are usually cheaper than personal loans because the lender holds the security over the home. It is a good idea to ask if your lender will do a separate split over a shorter timeframe, so you are not paying these off over the life of your mortgage.
Real Estate Investment
Leveraging the equity in your owner-occupied home or other property you own can be a great way to fund the deposit for an investment property. You will need to also have sufficient borrowing capacity to cover the shortfall in holding costs and mortgage expenses throughout the year. This can be a great way to utilize leveraging to build wealth. It is not without risks, though, and it is essential that you do thorough research to understand the big picture. Talk to one of our Home loan specialists today to understand what is involved. (CALL – (07) 3889 9250)
Debt Consolidation
Rolling your personal debt into your mortgage means you have just one payment to think about, and you will also likely reduce the interest rate as mortgage rates are traditionally much lower than personal loans, credit cards, car loans, and other consumer debt. If you are finding yourself weighed down with several high payments affecting cash flow, it is worth considering debt consolidation. Talk to our Specialist Broker about how we can roll all that debt into one easy-to-manage payment at lower rates. Please also consider the following.
- If you repeatedly roll debt into your home loan, you are eating away at the equity, making it harder to pay off your home.
- Think carefully before consolidating over the life of your loan. Lower interest rates will not benefit you if you extend consumer debt over 20 or 30 years. Ask us about having a second split on your home loan over a shorter period so you gain the benefits without dragging the debt over long periods.
- Good budgeting and discipline are essential. If you consolidate the debt and then rack up more consumer debt with extra payments, you are financially worse off, not better off. Talk to us about how to set yourself up for success.
Renovation/home Improvement
You can use some or all the available equity in your home to reinvest in your home by adding improvements or renovating. This can be a very good investment, but it is important to ensure that you do your research to understand how much to spend and what to spend it on. This will maximize your investment.
Wedding/holiday/large Expenses
According to Forbes, the average Australian wedding cost in 2023 is around $34,000. Everyone knows that travel is expensive, especially if you are planning an overseas trip. Another large expense is purchasing a car or a caravan. You will definitely secure a lower interest rate by using the equity in your home to cover these expenses; however, if you must do this, please consider doing so over 5 or 7 years, rather than the life of the loan because there is a major disadvantage – you are putting your home up as security against this expense. This is a risky move if you don’t have a solid plan in place to pay off this debt quickly.
Conclusion
Your home is your base, the place you live, and having the security of your own home is comforting. Think carefully before you access the equity in likely your biggest investment and the place where you live to fund anything that is unlikely to provide you with a solid return on investment. Using your valuable equity to invest in property, shares, etc., does have potential if you have educated yourself fully on the risks versus the return; however, it is wise to consider if you have the financial skills and a proven record in managing your budget before utilizing this valuable asset for other purposes. Brisbane Home Loans can assist you with as much information as you require to make an informed decision. We look forward to joining your team of trusted professionals.
