The equity you own in a home is an asset that you can use to borrow money when you need it. Borrowing against home equity is also one of the easiest ways to borrow because your home equity acts as security for the loan.
There are actually several ways to do this. The three most popular options are refinancing, taking out a second mortgage and obtaining a line of credit against the equity in a home.
Refinancing a mortgage is possibly the most common option. This is an obvious choice when the value of a home increases, or when interest rates decline. Both of those scenarios should make cash available to borrow. A cash-out refinancing loan allows you to replace your current mortgage with a mortgage up to the total value of your home. You can then take around 80 to 90% of the difference between the two mortgage values amounts out as cash. Of course, the higher mortgage value will mean your repayments will increase too.
Taking out a second mortgage means you will have two mortgages with different interest rates. So if interest rates have risen since you took out your first mortgage, you'll be paying a higher rate on the second mortgage. People often do this if rates have risen but they want to borrow a smaller amount. That means the bulk of their mortgage will still have the original rate, but the new loan will have a higher rate. If rates have risen, and your mortgage has a fixed rate, there is no point refinancing the entire amount at that higher rate - but you can take out a new mortgage for the equity in your home that is not yet mortgaged. While the second mortgage will have a higher rate, it will probably still be the cheapest option you have.
A home equity line of credit (HELOC) is a line of credit that you can borrow against, which is secured by the equity you have in your home. If you secure a credit line against your home equity, you will always have access to that cash, but only pay interest on the amount you actually draw. And, as soon as you repay the loan you stop paying interest.
Small business owners often use lines of credit like this to manage their cashflows. A business may be waiting for payment from a client, but have bills to pay in the meantime. This option minimizes their overall cost because they only borrow, and pay interest on, money when they actually need it. The disadvantage of a HELOC is that the interest rate is usually a little higher than a mortgage rate.
Just because you can borrow money against your home equity, doesn't mean you should. If you can improve the value of your house by renovating, or improve your earning potential by studying, it can make sense. People often borrow money against home equity to pay off expensive credit card debt. This is not really such a good idea, because you will often end up paying that debt off over a much longer period. You should really be avoiding credit card debt unless you can pay it off with cash, rather than with another form of debt.
Borrowing money against your home needs to be done responsibly. Just because you can, doesn't mean you should. Remember you still need to pay it back, and you are putting your home at risk if you can't pay it back. But, it's nice to know your options if you want to renovate your house, or in case of emergency.
