Pay more on your mortgage As you pay down the mortgage, your equity stake increases. While you'll always pay both principal and interest, a larger portion of the payment goes toward interest initially, and then more goes toward the principal over time.
There are several ways to build equity in your home, including making a higher down payment, increasing your mortgage payments and boosting your home's value through upgrades and improvements.
Specifically, equity is the difference between what your home is worth and what you owe your lender. As you make payments on your mortgage, you reduce your principal – the balance of your loan – and you build equity.
Factors That Impact Home Equity
The amount of equity you have in your home goes up and down based on your home's current market value and your mortgage balance. Other factors may include: The value of homes in the area where you live and how much they are increasing or decreasing year over year.
What is a good amount of equity in a house? It's advisable to keep at least 20% of your equity in your home, as this is a requirement to access a range of refinancing options. 7 Borrowers generally must have at least 20% equity in their homes to be eligible for a cash-out refinance or loan, for example.
You can increase how quickly you're gaining home equity by making extra mortgage payments, or paying more than you owe each month. If you make one extra payment a year, you could potentially pay off your loan ahead of schedule. You could also pay $X more than your required payment each month to get ahead.
Loan payment example: on a $50,000 loan for 120 months at 8.40% interest rate, monthly payments would be $617.26. Payment example does not include amounts for taxes and insurance premiums.
Example 1: 10-year fixed-rate home equity loan at 8.75%
If you took out a 10-year, $100,000 home equity loan at a rate of 8.75%, you could expect to pay just over $1,253 per month for the next decade.
HELOCs are generally the cheapest type of loan because you pay interest only on what you actually borrow. There are also no closing costs. You just have to be sure that you can repay the entire balance by the time that the repayment period expires.
Loans with shorter terms and larger down payments build equity significantly faster than loans with longer terms. Generally speaking, if you have a good credit score and make your monthly payments on time, you should be able to build sizable equity in your home over the course of five to 10 years.
If you make additional mortgage principal payments, you can build your equity quicker. However, that's not the only way your home equity can increase. Equity is based on the value of your house rather than just the percentage of the mortgage principal you've paid down.
When the market value of your home is greater than the amount you owe on your mortgage and any other debts secured by the home, the difference is your home's equity. Selling a home in which you have equity allows you to pay off your mortgage and keep any remaining funds.
How much equity will I have in 5 years? Using the same example as before: a $200,000 mortgage with a 30-year loan and 5 percent interest, the loan balance at the end of five years would be $183,349.06. The homeowner would have just over 9 percent equity in their home at the end of 5 years of monthly payments.
Example 2: 15-year fixed home equity loan at 9.07%
As of December 21, 2023, the average national rate for a 15-year loan was nearly the same as for a 10-year loan: 9.08%. With that rate and term, you'd pay $764.27 per month for the loan.
As far as the simple math goes, a $200,000 home loan at a 7% interest rate on a 30-year term will give you a $1,330.60 monthly payment. That $200K monthly mortgage payment includes the principal and interest.
The short answer? A resounding yes, because doing so has many benefits. If you're making regular payments on your HELOC, you may be able to pay off your debt sooner, so you're paying less interest over the life of the loan. You also decrease your loan to debt ratio, which is attractive to lenders.
The Bottom Line
Home equity loans can be a great way to improve your home, consolidate debt, pay for student loans or help alleviate other financial strains on your budget.
Now let's calculate the monthly payments on a 15-year fixed-rate home equity loan for $20,000 at 8.89%, which was the average rate for 15-year home equity loans as of October 16, 2023. Using the formula above, the monthly principal and interest payments for this loan option would be $201.55.
The 28% of your income rule
Considering a 20% down payment, a 6.89% mortgage rate and a 30-year term, that's about what you can expect to pay on a $185,900 home. If you only put 5% down and had a 6.89% mortgage rate and a 30-year term, you could likely afford a $159,300 home.
Presented on a company's balance sheet, equity may be increased by deliberate actions such as a company layoff, budget restrictions and a price increase, or it may result from higher than budgeted net earnings for a company's fiscal year.