As homeowners, we sometimes find ourselves obsessed with how much our home is worth: “Our neighbor’s home sold for how much?”, or, on the flip side, “The property tax assessor thinks my house is worth how much?”
Home improvements can really affect home value. Putting in a new kitchen in a hot market, for example, can really pay off in terms of making your home worth more. As homeowners, we take this into consideration when considering priorities.
But the more important number that you want to pay attention to, instead of your residence’s, is really home equity. Whether you are curious about general appreciation or interested in getting a return on your home improvement investment, home equity is what you want to focus on. Let me explain.
What is home equity?
Home equity is the amount of money in your home that’s yours, that you don’t owe to anyone else. An easy way to think about it is to think back to when you bought your home, how much of a down payment you put in.
If you paid $500,000 for your home and put $100,000 down (20%) and got a mortgage for the rest, that $100,000 is your home equity, while the rest is what you owe to the bank.
Over time, you pay down your mortgage and build more and more equity in your home, owing less and less to the bank, making your home equity grow.
Your home equity also grows when your home appreciates and shrinks when your home depreciates. Here’s a simple diagram that shows the relationship between home value, home equity, and what you owe.
Why is home equity important?
Home equity is important because it determines how big a check you get when you sell your home. You’ll get a check for your home equity, minus fees related to the sale, such as real estate broker fees, etc. That’s pretty important!
The amount of home equity is also important if you want to refinance, as you’ll want to maintain 20% equity in your home to be able to qualify for most refinances.