Why Equity Really is King

Equity is King

So you bought your first home, got a home loan, you’re paying your mortgage in monthly instalments, and everything is ticking along smoothly. You will own your home outright – in a few decades. But you don’t have to wait that long to buy your second property and start building a property portfolio.

When you use the equity in your home to purchase an investment property, you can make your most valuable asset – your home – work for you. This is known as leveraging and works every time you purchase a property. Apart from investing in property, you can use the equity for a multitude of other things.

Equity is King

What is equity?

Equity is the value of your asset, minus the money you still owe on it. If your property is valued at $500,000, and you have an outstanding loan of $200,000, then you have $300,000 in equity. However, the usable equity on your property would be a bit lower than this, which we discuss below with the help of an example.

The amount of equity you have in your home changes over time. Your individual circumstances, your financial situation, the kind of mortgage you have and changing property values will all have an impact on the equity you have in your home, and how quickly it increases.

The equity in your property will increase as you pay down your loan. If the value of your property goes up, either because of rising property prices across the country, or because of improvements you make to your property, the equity in your home increases too. The dynamic property market means you might even have more in equity in your home than you spent on the property and the mortgage.

Why is equity important?

For most of us, our home is our most valuable asset. Your equity is the portion of the property value that you actually own.

Equity is valuable in itself, even if you do nothing with it. But its real potential is in its borrowing power. You can refinance your mortgage, and free up the equity you have in your home to use as cash for important lifestyle purchases or further investment. You don’t have to wait until you own the entire home outright. You can use the equity now.

Finance raised by home equity offers much better value interest rates than other kinds of credit or loans.

Refinancing with equity is also a great opportunity to consolidate all your existing loans. You will not only save on interest but one repayment  is lot easier to manage and budget for than multiple loans.

What can you do with your equity?

You can use the equity in your home to fund important expenses that you would otherwise have to use credit for or pay off over time.

For example, you could use the equity in your home to purchase a new car outright. The finance will be much cheaper than a standard car loan.

With a lot of ongoing monthly expenses, like insurance, utilities, subscriptions and memberships, you can get substantial discounts if you pay up front for the year.

If you or anyone in your family is studying, it’s much cheaper to pay HECS as you go, and avoid a HECS debt altogether. Most private schools also have discounts for paying in advance.

It makes a lot of sense to use the equity in your property to finance home repairs, refurbishments and renovations. These major expenses are further investment into your greatest asset, because they can maintain or even increase your property value over time. And when you increase the value of your home, you increase your equity.

You can also use the equity in your home to fund further investment, such as shares, for greater return on your money. You could even use it to make a deposit on an investment property.

How does it work?

The useable equity in your home is determined by the value of the property and the LVR, or loan to value ratio.

The LVR is the amount of your loan, expressed as a percentage of the value of the property. To calculate it, divide the loan amount by the property value. So if you have a loan of $200,000 on a property worth $500,000, your LVR is 40%.

In most cases, you can borrow up to 80% of the property value without incurring Lenders Mortgage Insurance. The useable equity in your property will be 80% of the property value, minus the loan you already have.

If you have a property worth $500,000, 80% of its value is $400,000. Subtract the existing loan of $200,000, and you have $200,000 in useable equity.

What do you need to do?

As with any financial decision, do your research first! The Australian government’s Moneysmart website offers free financial information and advice on mortgage refinancing and debt consolidation.

Consider your personal situation, and what is important to you. Your circumstances today are probably very different than they were when you first financed your home. Your financial situation could be very different than a year ago – or even last month. Think about what your lifestyle, your expenses and your financial goals are like now – today.

With property prices on the rise, you need to know exactly where you stand if you want to make the equity in your home work for you. We can help by assessing your current mortgage and equity position at no cost.

Contact us for an obligation-free consultation to find how much usable equity you have in your mortgage.

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