Buying an investment property is a great option to gain considerable wealth over time and make your post-retirement life stress free. However, with rising inflation, the dream of reaching your financial goals before you hit your 80s is no more like a walk in the park.
Well, it’s still achievable. I know I contradict my previous statement but remember you are missing out on a most critical backup you have as a house owner. Curious? It is nothing but your home equity that might have reached its actual worth by far, and now is the right time to use it as a deposit to buy your desired investment property or for other financial purposes.
Want to get familiar with what is equity on the property? How to use home equity? How you can use home equity to buy an investment property? We have got you covered by breaking down all the essential details here.
Let’s run down to find out.
What is Equity?
Equity is a real estate term that describes the amount of money you put into a property. It is simply the difference between the value of your home and all its outstanding debt, such as mortgage payments.
For instance, if you have a house worth $900,000 and you owe a mortgage or other debts worth $480,000, you have an equity of $420,000 that you can use to fund other expenses. Equity on a property is directly proportional to the market value and reduced loan on a property.
So, if your property’s worth increases over time and you are conscious about interest repayments, you are more likely to build up your home equity. Well, there is another term called usable equity, and you can hear it quite often with equity. Let’s break into it.
What is Usable Equity?
Usable equity is a term that speaks for itself, as it is the equity you can access. Banks typically grant you 80% of your total home’s value when subtracted from your mortgage balance or debts, referred to as usable equity.
Usable equity estimates your existing home, mortgage, cash flow, and risks before investing in another property.
The Rule of Four
The rule of four is a great way to determine the amount worth spending on an investment property and a simple rule of thumb that most investors use. It says to multiply your usable equity by 4 to get the maximum purchase price.
The rule of four acts as a backup for additional costs allowing for a 20% deposit that helps avoid Lenders’ Mortgage Insurance (LMI).
Ways to Leverage Home Equity to Buy an Investment Property
There are multiple ways through which you can leverage your home equity, and some of them are as follows:
1. Cash-out Mortgage
A cash-out mortgage is another type of loan allowing you to withdraw funds from your equity and use them for any purpose, e.g., buying another investment property or paying off debt. With cash-out financing, you don’t have to pay interest on the borrowed funds until they are returned to you at closing.
The interest rate for this type of borrowing will usually be higher than that offered by a traditional mortgage because there is less risk involved since there is no payment due until closing.
2. Home Equity Loan
A home equity loan allows you to borrow against the equity in your house and pay back the loan with interest. Most home equity loans are unsecured and come with low-interest rates, so they’re often attractive for people who want to buy something big or need cash quickly.
You’ll pay off your loan monthly through a balloon payment as the term ends or as you pay down the principal.
3. HELOC
A HELOC (Home Equity Line of Credit), also called a second mortgage, is same as a home equity loan. However, the only difference is it works like a credit card, so you can reverse it after using and paying it down. People prefer this way of obtaining sums due to its flexibility.
Investing in a property is only good if you have enough money saved up for a down payment and closing costs. A HELOC will also help relieve some of these concerns by allowing you to pay down debt with your home equity. It also provides some liquidity in case interest rates go up, making the loan more expensive than expected.
Factors to Consider While Accessing Home Equity
Well, if you are planning to use equity to buy a house or using the equity in a house to buy another, you need to have a look at the following factors before moving ahead:
- Backup Funds: Using equity to buy an investment property is an excellent option if you have a backup plan for rainy days. Make sure you have enough money saved outside your home equity or can afford repayments in unusual scenarios before investing every penny in another property.
- Consult a Professional: It is always recommended to have a word with your financial advisor and a strategy in hand when you decide to take action. Also, consultation with a banker or broker is a smart move.
- Best Loan Type: Choosing the finest loan type that suits your goal is imperative for equity properties. A general rule of thumb is to go for an interest-only loan. Most people prefer this because the principal part of the payment is non-tax deductible.
- Long-term Goals: You must map out your long-term goals before using equity to buy a property. The type of property, benefits, value and potential risks are worth considering to reach your financial goals.
Use Your Home Equity Effectively
Equity on a property is an excellent asset these days to gain financial stability by accomplishing desired goals. However, you must have the best real estate advisors to support you at every stage. Many things can confuse you, such as how equity works and how to use home equity to buy your investment property.
A professional real estate company can help you throughout the process. You can rely on The Hawks Group for all your real estate needs. The tenacious and passionate team at Hawks provide comprehensive resources to buyers, sellers, renters, and developers with a client-focused approach.
On top of all, you’ll also get authoritative insights backed with real-time data and expert knowledge to help you make the right decision. So, what are you waiting for? Get in touch with one of our real estate agents today and use your home equity effectively!
