What is Home Equity? Why is it Important for Your Retirement Plan?
If you own a home, it is important to keep your home equity in mind when making decisions about your property and planning for retirement. If you use home equity effectively, it can help you pay for some of your retirement expenses. The first step to using home equity wisely is understanding what is home equity and how it can help support you in retirement.
What is Home Equity?
Simply put, home equity is the portion of your home that you actually own. Like many other U.S. homeowners, you most likely borrowed money to pay for your property. Though you own the house and your name is on the title, the lender still has an interest in the property until you have paid them in full. Your home equity is the percentage of your home’s value that you have actually paid for.
How to Calculate Home Equity
Value of Your Home – the Amount You Owe the Bank (Interest & Principle) = Your Home Equity
Your home equity is the difference between the appraised value of your home and the current balance of your mortgage (the amount you owe the bank — both interest and principle).
- Interest are the fees you pay the bank for the service of lending you the money
- Principle is the actual amount you borrowed
By subtracting what you owe on your home by what your home is worth, you are able to find the percentage of the home’s value that you have an interest in — your home equity.
How to Calculate Home Equity — Examples
For instance, if your home is appraised at $300,000 and you still owe $120,000, your home equity would be $180,000, or the value of the home that you can claim.
$300,000 – $120,000 = $180,000 in Home Equity
If you have paid off your loan in full, then the entire value of your home is your home equity. So, if the home is appraised at $300,000, then your home equity is $300,000.
$300,000 – 0 = $300,000 in Home Equity
What is Home Equity and Why is It Important?
Your home equity is considered to be an asset — like a savings account or investments. Your home equity is part of your net worth.
In fact, for most households, home equity is the most valuable asset they have. As such, it is an important part of your overall wealth and it should be considered as one of the many financial tools you can draw upon to make the most of your overall financial situation.
The tricky part with thinking of home equity as an asset is that it also provides a service to you — a place to live.
How Can You Build Home Equity?
You can build home equity by repaying your home loan. Paying more than the minimum monthly payment helps decrease your loan principal at a faster rate, thus increasing your home equity. You can also increase home equity by ensuring that your home is well maintained and making strategic renovations that increase the value of your home.
Using Home Equity in Retirement
Home equity is a part of your total net worth and can potentially be used to help fund retirement.
When planning your retirement, it is important to think about your home equity — especially if you might not have saved adequately.
Here are a few strategies to consider — either on their own or in combination with each other:
1. Pay Off Mortgage Before You Retire and Stay Put: Some people choose to live in their home once it is paid off, so that they no longer have to pay rent or worry about a stable living environment.
2. Downsize: There are really multiple benefits to downsizing — moving to a less expensive home or less expensive community. Depending on your situation, the upsides of can downsizing include:
- Reducing expenses for utilities, insurance, yard maintenance and taxes
- Reducing overall maintenance burden
- Reducing or eliminating ongoing mortgage payments
- Gain access to some of your equity to use on other expenses
3. Refinance Your Home: This may allow you to reduce your monthly mortgage payment by lowering your interest rate and/or potentially cash out some of your home equity. The downside to this option is that you will need to repay the loan and sometimes it can be difficult for retirees (without income) to qualify for the loans.
4. Take Out a Reverse Mortgage: A reverse mortgage turns your home equity into a loan that doesn’t have to be repaid until you move or pass away. Of you qualify, you eliminate mortgage payments and potentially get access to cash. If you plan to stay in your home for the long haul, this option might work for you.
Home Equity Calculators
Now that you know what home equity is and how it can be used in retirement, you can work toward making smart financial decisions during retirement planning. Keep in mind that when you tap into your home equity in retirement, you are often taking on a new form of debt. This means that you should weigh your options carefully before making any decisions.
Here are some home equity calculators that should help you further understand home equity and how it can work for you:
NewRetirement Retirement Calculator: This retirement calculator is one of the few tools that helps you assess how your home equity can be used for your retirement.
Bankrate’s Mortgage Calculators: A mortgage calculator can help you determine mortgage payments (see what happens if you were to downsize) or enable you to see how much it would cost to pay off your mortgage earlier. Bankrate offers a range of mortgage calculators.
Chase Bank: Chase offers home equity calculators to help you determine how much your home is worth, how much you can borrow and also a calculator to help you determine if you should use home equity to consolidate debt.
Reverse Mortgage Calculator: Find out if you qualify for a reverse mortgage and and get an instant estimate of your loan amount.
The Wells Fargo Home Loan Amortization Calculator: This home equity calculator helps you work out how long it may take you to pay off your loan.