How to Build Equity: Own More of Your Home

What Can You Use Equity For?

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Building equity is one of the primary financial benefits of homeownership. You don’t notice it while it’s happening, but if all goes well, you end up with a significant asset that you can use for almost anything.

What is Equity?

Equity is the amount of your home that you actually own after accounting for debt. To calculate that value, subtract your loan balance from the market value of your home.

If the result is a negative number, the home is worth less than you owe on it, and you have negative equity.

Example: Your home is worth $250,000, and you owe $100,000 on your mortgage. $250,000 minus $100,000 equals $150,000 of equity in your home.

What can you do with your equity? Equity is an asset, and you can:

  • Receive cash after you sell the home and pay any related costs.
  • Borrow against it with a home equity loan or home equity line of credit (HELOC).
  • Use it for a down payment on your next home purchase.

How to Build Equity

The more equity you have, the better. There are two ways to build equity:

  • The property value increases.
  • The amount of debt decreases.

You can take an active or passive approach to building equity, depending on your goals, your resources, and your luck.

To calculate and visualize how you build equity with a fixed-rate mortgage (and occasional home improvements), enter your numbers into a home equity calculator in Google Sheets.

Increase the Property Value

Your home’s market value is an important component in your equity calculation. If the home’s value rises, you instantly have more equity. So, what makes home prices head upward?

Rising prices in your market: If you’re fortunate, home values in your market might increase over time without any action on your part. That’s most likely to happen in attractive neighborhoods or growing towns.

Home improvements: You can also invest in your home to increase its value. Updating kitchens and bathrooms, improving landscaping, and making the home more energy-efficient can all pay off. But those projects cost money up front, and you need to be confident that you can more than recoup those costs. If you’re making improvements mainly to build equity, pick projects with the highest return on investment (ROI).

Upkeep: Routine maintenance is tedious (and it costs money), but a home that’s falling apart is not worth much to anybody. If you fail to address maintenance issues like leaks and deteriorating roofing, your home equity may decrease over time.

Reduce the Debt

Monthly payments: With most home loans, you pay down your loan balance a little bit with each monthly payment. A basic amortization table can show you the process in action. The longer you have your loan, the more principal you pay (more of each payment goes toward equity, and less of each payment evaporates in interest charges). The process is automatic on most loans. If you just keep making payments, you build momentum and make increasingly large principal payments without even trying.

That’s the passive approach to eliminating debt. But you might want to accelerate the process and build equity more quickly. There are several ways to do that.

Choose shorter terms: Shorter loan terms cause you to pay down debt and build up equity more quickly than long-term loans. For example, a 15-year mortgage would be better than a 30-year mortgage if your primary goal is to build equity. As a bonus, those shorter-term loans often come with lower interest rates. A low rate combined with the fact that you’re paying interest for fewer years means you’ll spend less on interest over the life of your loan.

Make extra payments: Even if you have a 30-year mortgage, you can speed things up by paying extra. Each additional dollar you pay above your required monthly payment reduces your debt and adds to your equity—just make sure your lender applies those payments to the principal. Nothing is stopping you from setting up a 15-year repayment schedule (see the link to the amortization table above) and making those bigger payments on your 30-year loan. If things change at some point and you can’t afford to do that anymore, you’ve got the flexibility to go back to the smaller 30-year payment.

If that’s too complicated, just send an extra payment from time to time.

Leave it alone: Second mortgages and refinancing can interfere with debt reduction. If you can save a bundle by refinancing, go ahead and do it. But remember that with most loans, you pay mostly interest in the early years of your loan. Every time you start over, you delay (or at least slow down) the equity-building process. Borrowing against your home with a second mortgage or HELOC increases your debt and reduces your equity.

Forced Savings

Sometimes people refer to a mortgage payment as "forced savings." You might not think you're saving any money by making payments each month, but you are building up the value of an asset (like you would build up the value of a savings account by making regular deposits). With a home, the asset isn't cash in a savings account—it's equity in your home.

That said, the process is slow, and only a portion of your monthly payment goes to equity (the amount increases over time, but starts small). As a result, it’s best to borrow only what you need.