What is Home Equity?
Home Equity is the difference between the fair market value of your home and what you owe on the home. What you owe includes all liens on your property (such as a mortgage). Fair market value is the price you would get if you sold your house today.
To find out your fair market value you might book an estimate from a professional home evaluator. Even better, wait for your financial institution to book an evaluation, which they will likely do after you apply for a change to your mortgage. If you have no mortgage or liens against your house, then the entire fair market value is your equity.
What Can I do With my Home Equity?
Now that you know your approximate home equity, how can it help you improve your financial well-being? Many home/property owners do not consider their major asset as a source of cash for other investments. In reality, you can’t afford to have your home asset not working as hard for you as you worked for it!
There are several options to consider for using your home equity. The one most often promoted by financial institutions is the reverse mortgage. With a reverse mortgage, you can borrow up to a certain percentage of your home’s value to do whatever you want. There is no repayment required during the loan, so long as the borrower still owns the property. BUT, if a home/property owner passes away, or wants to sell, the loan and any interest accumulated are due and payable. These debts against the home/property are the first to be paid off before the remainder is paid out to the seller after a sale. The reverse mortgage depletes your home equity both through the loan principal and the interest owing.
Another form of funding from home equity is a Home Equity Line of Credit (HELOC). This uses the home/property as collateral. Financial institutions will offer various forms of Lines of Credit but be cautious as you consider your options. Interest costs vary between financial institutions and by the type of the Line of Credit. With the Line of Credit, you must pay the interest on your debt every month, but not the principal. You borrow money from the HELOC when you need it. Interest is only paid on the actual money borrowed and not on the entire Line of Credit.
The Home Mortgage
Finally, you can take a new mortgage, for up to 80% of the home’s value. However, you must have the income to pay interest and a portion of the principal every month or every 2 weeks.
How Can I Use This Money?
The money you take from your home equity is considered a transfer of value against the home/property, and not income. This means that the money you receive will not be reported as income, and so is not taxable.
If you use the money to buy investments that include at least a portion of either interest or dividend payments this is to your advantage. The interest charges on the loan are then a tax deduction – the government pays part of your borrowing costs! The cash flow generated by your investments can (and should) cover two things. It should cover the cost of borrowing, and provide you with additional income (sorry, but this is taxable!) to help you financially!
The tax deduction on interest charges must be qualified. You must be able to show how all the borrowed money was used for investing. I recommend having a compartmentalized Line of Credit that makes this process considerably easier.
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