February 06, 2019
On Tapping Home Equity
A home’s equity—the difference between what its owner owes and what the home is worth on the market—is often considered one of the great sources of potential wealth available to average citizens in our society. Some consider a primary goal of home ownership the establishment of total ownership over their home: the situation in which the mortgage is paid off completely, meaning no debt is any longer owed on the home at all. But there is another use for equity in a home, which is the positioning of the home’s value not still owed as collateral for another loan. We often refer to this as tapping equity.
There are three basic shapes such an equity-based loan may take.
First, and most common, is the Home Equity Loan. This is what is referred to when one hears about someone having “taken a second mortgage” on their property—because that is essentially what it is. The equity amount of the home is loaned to the homeowner at interest—usually an amount of interest that is higher than on a typical mortgage. The homeowner may then use that money for any purpose—so long as they pay the loan on time. Since the property is put up as collateral, failure to pay this loan is as serious as failure to pay on a second mortgage: it can result in foreclosure. Often these are used to make improvements on a home that the owner otherwise could not afford to make, which makes it an investment in the real estate. The 2018 Tax and Jobs Bill has complicated the deduction issues of such a loan: one’s total real estate holdings that can be deducted amount to only $750,000. Any more than that is now taxed as income.
Then there’s a Home Equity Line of Credit (HELOC). Rather than being a loan of a lump sum, the equity is established as the maximum potential credit on which one can draw from time to time, paying interest on only the amount actually borrowed, just as with credit cards. There are generally no closing costs involved. Again, the home is the collateral, and the entire amount one has borrowed will need to be paid back in full by the time the term of the line of credit expires.
The third form of equity loan is a Cash-Out Refinance. Rather than necessarily involving a second loan, in this scenario one refinances the home into a new loan but for a larger amount than one still owes on the property. The difference is accepted by the homeowner in cash, and then the mortgage is paid back in one lump sum. Sometimes people do choose to break this into two loans, however, to save money on mortgage insurance for the non-home portion of the loan. Closing costs on this sort of loan are typically fairly high. This sort of loan makes sense for those who have managed to accrue a good amount of equity and who have improved their credit scores substantially since the time they purchased the home, netting them a better interest rate in the present than the rate on the initial loan.
At Topouzis & Associates, P.C., we offer the services that ensure your title gets conveyed clear of defects, and we supply purchasers with Owner’s Policies of title insurance. Contact us if you want your property transfer in Cranston, Rhode Island; Springfield, Massachusetts; or Panama City, Florida to go through without a hitch—both before and after closing.