What Does Equity Mean in Real Estate?

Equity is the difference between the market value of your home and the amount you owe to the lender on the mortgage. As you’ll learn today, there are many ways you can build equity.

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Today I wanted to cover a topic that’s very relevant to first-time home buyers: equity. What is it and how can you get it? If you haven’t experienced the buying, selling, or mortgaging processes before, let me break it down for you.

What does equity mean in real estate? Equity is the difference between the market value of your home and the amount you owe to the lender on the mortgage. If you were to sell your house, the equity would be the money that you would receive after you paid off the mortgage. It’s that difference between the market value and your mortgage payoff.

For example, let’s say the fair market value of your home is $200,000 and you owe $150,000 on your mortgage. That would make your equity $50,000.

What is net equity? Net equity is different from gross equity in that it applies to the sellers—not the buyers. Net equity is the gross equity minus the cost of selling the home. These costs may include commissions for the Realtor, unpaid property taxes, any liens (should you have added an equity line of credit), and any items in the closing costs that you did not pass on to the home buyer.

Let’s say your same home from the example above sells for $200,000 and your mortgage on the home is $150,000. Your gross equity would be $50,000, but you may owe a commission of $12,000 to your Realtor, and along with your other closings costs, it could add up to another $3,000 in seller-paid costs. That would make your net equity $35,000. Net equity, as you see, is the amount you would pocket at the end of the sale.

Homeowners can build equity in a variety of ways. The first is through the down payment, or the money you put into the home that reduces the initial mortgage. For example, a 20% down payment on a home valued at $100,000 is $20,000. You would start with an equity of $20,000 and avoid paying mortgage insurance. Your mortgage balance would be the remaining $80,000.

You can also build equity through mortgage payments. With each payment, you build equity by paying on the principal while also paying the interest on the loan and any insurance and/or tax payments you include in the total. Any extra payments on your mortgage payment can increase your equity quicker because they would go 100% toward your principal of the loan—not toward interest.

Home improvements are another way to build equity. If you make home improvements, that raises the fair market value of your home, which increases your equity. For example, let’s say you spend $50,000 on a kitchen remodel that increases the home’s market value by $30,000. You have raised your equity by $30,000, assuming you didn’t take out a home equity loan to pay for it.

Finally, you can build equity through simple market value appreciation. The fair market value of your home may rise because similar houses in your area start selling for more money. A lender may be willing to refinance your mortgage at a higher value, for example. If you bought your house for $100,000 with a 20% down payment and similar homes in your area start selling at $120,000, your equity increases by $20,000 due to that rise in price.

If you’d like to know more about how to find that right house to build equity with, feel free to give us a call or visit us online. Until next time, make it a great week!

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