The Bay Area Wealth Conundrum
The Bay Area is unique - not just for our farmers markets, tech startups, and great weather, but because it is not uncommon to have a neighbor with a net worth of $1MM+ struggling to make ends meet.
Equity = Assets - Liabilities
For those that purchased real estate before the tech boom that has transformed the Bay Area, likely, the Equity column has quite a bit of value. But, even for those buying now, you will notice that 20% down on a $1MM home is $200K in equity.
Now, not everyone needs to worry about accessing the equity in his or her home. And, for some there is no equity at all (this is also called being “underwater” or “upside-down”).
Today's topic - how to access equity. A false perception of equity is that it is useful in and of itself. I say that mainly to point out that you need to perform some sort of action before being able to access it. Unlike cash in your bank account, it is not always possible to pay for dinner and a movie with equity. So what is a homeowner to do? Although selling is an option, here are the most common ways to go about accessing equity without selling your home:
1) Home Equity Loan
A home equity loan is almost identical in nature to the mortgage you currently (or at one time did) have on your home. You will get an upfront amount, and from there you make monthly payments until the principal balance is paid in full. Home equity loans can have fixed interest rates and tend to have shorter durations than purchase mortgages.
2) Home Equity Line of Credit (HELOC)
A HELOC is a revolving form of credit that uses your home as collateral. Many people associate a HELOC to a credit card (as some banks actually issue a card for you to make charges with). During the course of the HELOC, you have a period to “draw” on the available funds. At no point do you actually need to draw on, or use, the funds and you only have to payback what you borrowed (which usually does not start until after the draw period). Typical terms of HELOCs are adjustable rates (usually based on the prime rate) and often 5-25 years. During the repayment period, payments can be made on a schedule of principal and interest or interest only with a lump-sum balloon payment at the end.
Refinancing in today’s market has been popular as homeowners refinance higher interest rate mortgages into new loans with lower interest rates and possibly different durations. When thinking about refinancing, it is not just used to lower an interest rate. A common form of refinancing is called a cash-out refinance, where the borrower actually gets a check at the end of the refinance and the new principal balance for the mortgage is the basis for the payments.
The interest rates, terms, durations, draw periods, etc. can all vary. However, all methods do come with caveats, costs, and Deeds of Trust.
If you are considering any of the above, I highly recommend speaking with your accountant about any potential tax benefits (interest on your home equity financing may be tax deductible) and with a mortgage broker/lender to get an idea of the process.
If you ever have any questions at all, please do not hesitate to reach out. At MinnGo, we realize that real estate is not something our clients think about everyday. Lucky for you, that is what we live and breath.
Until next time.