Home Equity

Home equity is calculated as: home market value minus outstanding mortgage balance. If your home is worth $400,000 and you owe $250,000 on your mortgage, your equity is $150,000. Equity builds through two mechanisms: paying down the mortgage principal and home price appreciation.

Home equity is typically the largest component of a homeowner's net worth. The median US homeowner has approximately $300,000 in equity. This makes real estate a forced savings mechanism — each mortgage payment builds equity, whereas renters build no equity through housing payments.

You can access home equity through several mechanisms: selling the home, home equity loans (fixed rate, lump sum), home equity lines of credit (HELOCs, variable rate, revolving), and cash-out refinancing. Each has different rates, terms, and tax implications. Interest on home equity loans used for home improvements may be tax-deductible.

Using home equity wisely versus recklessly is a critical financial distinction. Good uses include: home improvements that increase property value, consolidating high-interest debt (only if spending habits change), and funding education or starting a business. Risky uses: funding lifestyle expenses, investing in speculative assets, or using equity for discretionary purchases.

The 2008 financial crisis was largely caused by homeowners borrowing against inflated home equity and lenders enabling excessive borrowing. When home values fell, many homeowners owed more than their homes were worth (negative equity or "underwater"). This history is why responsible equity management is essential.