Why You Should Care How Much Equity You Have in Your Home

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© Provided by The Motley Fool Why You Should Care How Much Equity You Have in Your Home © Getty Images A couple standing in an empty living room looking out the windows.

If you are a homeowner, it’s important to have sufficient equity in your home. Equity refers to the amount of your home that you own, and you can find out how much you have by determining your home’s current value and subtracting the amount you owe from that. For example, if you have a home worth $400,000 and you owe $350,000 on it, then you have $50,000 in equity.

So, why does having equity in your home matter? Here are a few key reasons.

You build wealth as you build equity

Your home is probably one of your most valuable assets — but only if you actually own it, and not the bank. As you pay down your mortgage and build equity, you grow your net worth.

Having more equity in your home gives you the opportunity to sell and walk away with cash you could invest, if you want to do so. This could enable you to add to your retirement fund or live off the money if you need it. You could also take the proceeds from your home sale and buy a smaller place that you could perhaps own mortgage free, which would drastically reduce your housing costs.

As you acquire more equity, you’ll also eventually pay your mortgage down to $0 and end up owning your home free and clear. This obviously cuts down your housing costs as well and can be very helpful in making retirement more affordable. Plus, you’ll have an asset that you can leave to your loved ones after you’re gone, which helps them build wealth, too.

You need equity to be able to sell your home

If you want to sell your home, you are going to need enough money to pay off your mortgage loan in full as well as pay for closing costs associated with the sale of your property. Closing costs can be quite expensive, especially if you pay a 6% commission to real estate agents involved in the sale of your home.

If you don’t have sufficient equity, you may not be able to sell the house and have enough to pay off your mortgage and cover all of the costs involved. You could end up forced to save up money just to get the cash needed to sell, or could find yourself unable to leave the home unless the lender agrees to a short sale.

If you have plenty of equity, selling and generating enough to pay off all your expenses should be easy. And you may get back plenty of extra money that you can use for other things, such as a down payment on a new home.

Equity is important if you want to refinance

There may be times you want to refinance your mortgage to reduce your interest rate. If that’s the case, lenders usually limit the amount they’ll allow you to borrow relative to the value of the home. In many cases, you can’t borrow more than 80% to 90% of the home’s value, although some refinance lenders allow you to go a little higher.

The more equity you have, the smaller the balance of your new loan would need to be when you refinance, relative to your home’s value — and the more likely it is that you would have your choice of lenders and be able to refinance at a competitive rate.

These are all really good reasons why you need to care about your home equity. It’s definitely worth keeping tabs on what your home is worth relative to your loan balance. This way, you’ll have the confidence of knowing you’re building wealth and could sell or refinance your loan if you need to.

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