How To Build Equity In A Home

Building equity in a home is a valid and valuable reason to purchase a home. To build equity  requires strategic thinking, careful planning and patience. From maximizing your down payment to exploring ways to pay off your mortgage faster, we’ll share proven strategies to grow the wealth locked in your home.

Understanding Home Equity

Understanding the concept of home equity is essential to understanding how your home’s value contributes to your financial well-being. Home equity is the difference between the current market value of your home and the amount you owe on your mortgage. It represents the portion of the property you truly own.

You can leverage the potential of your home equity through home equity loans, cash-out refinances and home equity lines of credit (HELOCs). Each opens access to the money in your home for your needs, including debt consolidation and big-ticket expenses. And higher amounts of home equity can lead to bigger profit potential when you sell.

Ways To Build Home Equity

You can build equity in a few ways, like paying down your mortgage more quickly or increasing the home’s value with renovations.

First, we’ll look at ways to decrease your mortgage balance, such as making a large down payment, refinancing to a shorter loan term and making extra mortgage payments.

Make A Large Down Payment

When you make a down payment, you instantly gain equity in your home. The bigger the down payment, the more equity you have from the start.

For example, if you buy a $300,000 home with no money down, which may be the case if you use a Department of Veterans Affairs (VA) or U.S. Department of Agriculture (USDA) loan, you would start homeownership with zero equity. If you put 20% down on the $300,000 home, you would immediately have $60,000 in equity.

With a large down payment, you can typically secure competitive interest rates and avoid private mortgage insurance (PMI), which frees up money in your monthly budget to make extra mortgage payments and build home equity.

Refinance To A Shorter Loan Term

Consider refinancing to a shorter loan term to accelerate mortgage payoff and build equity faster. Refinancing replaces your existing mortgage with a new one. And if the timing is right, sometimes you get a lower interest rate. If you refinance from a 30-year loan to a 15-year loan, you’ll pay off your mortgage earlier and build equity faster.

While you’ll save on interest over the life of the loan with a shorter loan term, it may increase your monthly mortgage payments. More of each monthly mortgage payment will go toward reducing the loan’s principal balance, accelerating the growth of your home equity.

Evaluate your finances and goals before considering a refinance, and make sure you can afford the new monthly payments. Consider your home loan’s current interest rate, the potential savings from refinancing and any closing costs associated with the loan.

Make Extra Payments Or Pay More Than The Mortgage Amount

One effective strategy for building home equity is to pay down the mortgage faster by making extra mortgage payments, also known as prepaying your mortgage. When you pay more, you shrink your outstanding mortgage balance.

You can get a similar result by allocating extra money to your mortgage payment. Using our $300,000 home example and assuming a 20% down payment, if your monthly mortgage payment is $2,139, adding $100 and making a $2,239 payment toward your principal balance will substantially reduce interest payments. Just $100 more a month can save you $82,276 over the life of a 30-year mortgage with a 7.7% interest rate, allowing you to shave over 4 years off your mortgage term.

Before you start making extra monthly payments or allocating extra money to your mortgage payments, tell your lender you want any extra money to go toward your principal balance.

Make Biweekly Payments

Another tried and tested strategy to build equity in your home faster is to switch to biweekly mortgage payments. Instead of making one monthly payment, you split your mortgage payment in half and make a payment every 2 weeks, resulting in 26 half payments, which equals 13 full payments a year – not the usual 12. You make one extra payment a year when you switch to biweekly payments.

That extra payment can shorten your mortgage payoff timeline significantly, sometimes by 6 or 8 years. Biweekly payments help you build equity faster and reduce the interest you pay over the life of the loan.

However, no matter which early mortgage payoff strategy you choose, review your mortgage agreement for any language about prepayment penalties and how they’re triggered.

Build Equity With The Right Home Improvements

Another way to increase equity is through home improvements that can raise the value of your home. Focus on improvements that increase home value and avoid extravagant or highly personalized changes that may not appeal to buyers.

Here are some of the most important factors to consider when making home improvements that add value:

• Functionality and broad appeal: Focus on repairs and additions, such as wood floors, that significantly enhance a home’s appeal and likely appeal to buyers.
• High return on investment (ROI): Consider renovating your kitchen or bathroom because these upgrades often earn high ROI.
• Curb appeal: Enhance the attractiveness of your home with projects like landscaping or painting your front door.
• Energy-efficiency: You can boost your home’s value and attract eco-conscious buyers by improving your home’s energy-efficiency through insulation, efficient appliances or solar panels.

Time Frame For Building Home Equity

Building home equity is a process influenced by multiple factors and takes time. Understanding the time frame around building home equity is important to setting realistic expectations and making informed decisions.

Here are two key factors that can affect the time frame for building home equity:

1. Mortgage term: The length of your mortgage term can impact how quickly you build equity. A shorter term, such as a 15-year term, allows you to build equity faster than a 30-year mortgage.
2. Housing market conditions: The time frame for building equity can be impacted by the state of the housing market. You can quickly build equity in a strong market where home values are rising. It may take longer to build equity in a stagnant or declining market.

Building Equity FAQs

Can I use my home equity to pay off other debts?

Yes, you can use your home equity to pay off other debts. You can use a cash-out refinance, home equity loan or home equity line of credit (HELOC) to access your equity, borrowing against the value of your home to consolidate or pay off debts, such as credit card debt or student loans. Withdrawing from the equity in your home can be a smart financial move that lets you take advantage of potentially lower interest rates or simplify your debt payments.

How does the location of my home affect its equity?

The location of your home can significantly impact how it builds equity. Homes in competitive neighborhoods or areas with strong economic growth tend to appreciate faster, leading to higher equity. Homes in less competitive neighborhoods may see slower or no growth, curbing equity growth. Proximity to amenities, schools, transportation and job opportunities also factor into a location's impact on equity.

Can I build equity in a rental property?

Yes, you can build equity in a rental property. To build equity, you must increase the difference between the property's value and the amount you owe on the mortgage. You can do this by making extra mortgage payments, increasing the property's value through renovations or improvements or refinancing to a shorter loan term. Building equity in a rental property can help you accumulate wealth and increase your net worth.

Is it possible to build equity without making extra mortgage payments?

Yes, you can build equity without making extra mortgage payments. One way is to increase the value of your home through renovations or improvements or wait for the housing market to increase in value. Another way is to make a larger down payment to increase your equity stake in a property.

The Bottom Line: Building Home Equity Is Your Path To Long-Term Wealth

According to the Federal Reserve Bank of St. Louis, in 2023, U.S. homeowners had roughly $30 trillion in home equity. The study proves you’re in good company if you’re committed to building home equity to generate long-term wealth.

If you want to refinance for a shorter term to build equity faster, we can help you find the best loan for your needs from our friends at Rocket Mortgage^®.