Although interest rates have ticked up recently, clients are still looking to borrower against the equity in their homes. Recently, homeowners in the United States have realized record equity gains. Due to the recent run up in property values tappable equity is at an all time high.
What is Equity?
Equity is the difference between the current market value of your home and the current balance(s) on any mortgage(s) of the property.
For example, if a home is worth $450,000 with a first mortgage of $275,000 the current equity is $175,000.
Lenders do not allow you to borrow all the equity in your home. Although it can vary by loan type, generally you can borrow up to 80% of the appraised value. Tappable equity is the difference between the new maximum loan amount and current mortgage balance(s).
In the example above 80% of $450,000 = $360,000. The tappable equity in that example = $85,000.
How Can I Access My Equity?
There are a few ways that your equity can be accessed. The first is to sell your home. When you sell the home, any outstanding mortgages are paid off. The seller recieves the difference between the sale prices, the mortgage payoff(s) and any fees/taxes associated with the sale.
Other than selling your home, the way to access your equity is by taking a mortgage against the property. There are two ways you can borrower against your home. You can take out a new first mortgage (cash-out refinance) or take out a separate second mortgage (home equity line of credit or fixed rate home equity loan).
Cash Out Refinance
A cash out refinance is a first mortgage. The refinance pays off the balance of any existing mortgages, closing costs, and any pre-paid taxes. The remainder is cash back to the borrower. The cash back is not considered as income, and is therefor tax fee. Cash out from a refinance can be used for a number of reasons. The cash back is often used by clients to pay off higher rate consumer debt, home improvements, funds for college, to purchase another home, or for investment purposes (among other things).
Home Equity Loan
A home equity loan is a seperate mortgage. With a home equity loan, the first mortgage stays in place. There are no changes to interest rate, term or payment on the primary mortgage. The home equity is in second lien position (behind the first mortgage). The second mortgage has a separete interest rate and payment from the primary mortgage.
Advantages of a Cash-Out Refinance
A first mortgage refinance generally has a lower interest rate than a second mortgage. There are also, typically, more payment options available on a first mortgage. With a first mortgage fixed rate terms from 8 years up to 30 years are availabe. There are also an array of variable rate mortgages as well. The adjustable rate mortgages have fixed rate periods from 3 years up to 10 years.
The adjustable rate mortgages are amortized for 30 years, which helps keep the monthly payment down. After the initial fixed rate period the interest rate and monthly payment will adjust every 6 months.
With only a first lien mortgage, it is easier to refinance in the future when interest rates drop. There are less steps involved when refinancing just a first mortgage compared to both a first and second mortgage. There can also be additional fees to combine both a first and second mortgage into a refinance.