Evaluating the Equity in Your Home
Equity is at the core of many secured financial products, and the home equity loan is no exception. It is helpful to know how to properly calculate the equity in your home, so you know how much you can reasonably expect to borrow.
Equity is essentially the difference between the current appraised value of your home and the balance of your mortgage. If you have a second mortgage, you’ll need to subtract both mortgages.
The more equity you have, the better shape you’re in to borrow against the value of your home. More equity can help you get a larger home equity loan (HEL), better rates and even additional refinancing options.
Combined Loan-to-Value Ratio
Lenders prefer another way to look at equity, called the combined loan-to-value (CLTV) ratio, when determining how much you can borrow or if you qualify. Your CLTV will determine the loan amount you can secure.
The CLTV is calculated by taking your current mortgage balance plus your potential home loan amount, then dividing that number by your home value. The lower the CLTV, the better.
For example, say your home is valued at $300,000. You have $120,000 remaining on your mortgage. That means you have $180,000 in home equity. If you desire to borrow $75,000 of that through a home loan, your CLTV would be as follows:
($120,000 + $75,000) / $300,000 = 65% CLTV
Loan amounts and CLTV limits depend on the lender. Discover Home Loans offer loans from $35,000-$200,000 with CLTV less than 90%.
The Home Appraisal Process
Both standard equity and CLTV depend on a home appraisal. You’ll likely need to get a new, professional appraisal when using your house as security for a loan, like a home loan. Usually, a professional comes to your home and looks at the exterior. If there are any unique features or concerns, lenders will usually work with you to find a time for an interior inspection as well.
Some of the factors that determine your home’s value include:
- Size Location/Neighborhood
- Taxes you pay each year
- Comparable homes in your area
- Upgrades you’ve made
- General look of your home, including paint, curb appeal and proper construction
Some lenders instead use data to determine your home’s value. One standard model that’s used is called the automated value model (AVM), which estimates value based on comparable data, like the most recent listings and sale prices of similar homes in your area. A home loan for home improvement can also potentially improve your home’s overall value.