What Is Home Equity? How It Works for Homeowners

The ability to build equity is one potential advantage of homeownership. As you pay off your mortgage, the share of your home that you own typically grows, especially if your property value increases. That share is called home equity. If you sell your home, that equity minus any closing costs you’ve agreed to will be deposited into your bank account. But even if you don’t sell, you may be able to access that equity by borrowing against it. 

However, there are risks to tapping your home equity before you sell. It’s important to understand how home equity works, how to build it, and the best ways to use your tappable home equity while minimizing potential loss. 

What is home equity?

Home equity is the difference between the current value of your home and the outstanding principal balance on your mortgage. 

When you make a down payment and close on your home, your home equity is initially equal to the down payment amount. However, as you make mortgage payments, and if the value of your property doesn’t depreciate, your home equity will increase. 

Once you’ve fully repaid your mortgage, you’ll own your home outright and have 100% equity in your property. 

Read More: Benefits of Owning a Home

How do you calculate home equity?

To calculate your home equity, subtract your outstanding mortgage balance from the current appraised value of your home. 

If you have multiple loans against your home, such as an existing home equity loan or home equity line of credit (HELOC), you must subtract all debt balances from your home’s value to get your home’s equity. 

Let’s say your home is worth $300,000 and you owe $210,000 on the mortgage. Your home equity would be the difference between home value and remaining loan balance, or $90,000:

• $300,000 – $210,000 = $90,000

To determine your home equity percentage, divide $90,000 by $300,000 and multiply the result by 100.

• $90,000 ÷ $300,000 = 0.3; 0.3 x 100 = 30%

In this scenario, you would have 30% home equity.

How do you build home equity?

There are a few different ways to build home equity.

1. Real estate appreciation

Home price appreciation has actually been a lucrative way for many homeowners to build home equity in recent years. According to the Federal Housing Finance Agency's House Price Index, single-family home prices increased by about 44% between the fourth quarter of 2020 and the fourth quarter of 2025. Owners in areas with substantial property value increases can build a lot of equity. 

2. Mortgage payments

Making mortgage payments is another way to build home equity. “As you pay down a mortgage, each monthly payment reduces your loan balance by a slightly larger amount, known as amortization,” says Laura Adams, senior analyst at Aceable Mortgage. “Therefore, every payment allows you to own more of your home and owe less, almost like a forced savings account.”

While mortgage repayment and home price appreciation allow you to build equity over time, there are some strategies you can use to speed up the process, according to Ernie “Big Ern” Becker, broker and owner at United Real Estate Queen City.

“Making extra principal payments, switching to biweekly payments, and maintaining the home properly all help build equity faster over time,” says Becker. “I also tell homeowners to improve the house strategically.”

3. Home improvements

Some home improvement projects may help you earn a better return on your investment. For example, replacing your garage door or entry door can recoup greater than 200% of your cost with the right materials, according to the Journal of Light Construction's 2025 Cost vs. Value report. 

Refinancing to a shorter-term mortgage is another way to build equity faster and potentially save on interest, assuming the new monthly payment is affordable. 

How can you borrow against home equity?

Once you’ve built enough equity, there are a few ways you can borrow against it. “The smart uses tend to improve long-term financial position, not just fund temporary excitement,” says Becker. Here are some borrowing options.

Home equity loan

A home equity loan (HEL or HELOAN), also known as a second mortgage, provides a lump sum that you typically repay in fixed monthly payments over five to 30 years. 

Borrowing limits can depend on your available equity. Because home equity loans are secured by your home, they typically offer lower interest rates than unsecured loans. But they come with closing costs and can take longer to fund. 

Home equity line of credit (HELOC)

A home equity line of credit is another way to tap into your home equity that works more like a credit card than an installment loan. Instead of receiving a lump sum upfront, you receive access to a revolving credit line you can draw from on an ongoing basis without reapplying. 

HELOC terms vary by lender, but they often feature a draw period during which you make interest-only payments, followed by a repayment period when you pay principal and interest according to a fixed schedule. 

Like home equity loans, HELOCs use your home as collateral. HELOCs often have lower upfront costs and offer faster funding than a home equity loan, but they typically feature variable interest rates and other fees, so payments may be unpredictable. 

Cash-out refinance

A cash-out refinance involves replacing your existing mortgage with a new, larger mortgage and keeping the extra money. 

You may be eligible to roll the financing costs into your new mortgage payment. To be eligible, your existing mortgage typically needs to be at least a year old, and you must be current with your payments. 

A cash-out refinance may be most beneficial if you can get a lower interest rate on the new loan compared to your original mortgage. 

“A lot of homeowners won’t let you forget they’re sitting on ultra-low mortgage rates from years ago,” says Becker. “Sometimes for those owners, refinancing to cash out accidentally turns a comfortable payment into one that the homeowner may not be able to afford.”

Reverse mortgage

A reverse mortgage is a specialty loan typically available to borrowers who are 62 years or older. It’s a way for retirees to benefit from the equity they’ve spent years building without having to increase or take on a mortgage payment. Borrowers receive a lump sum — similar to a regular home equity loan — but aren’t expected to pay the money back until the home is sold. In many cases, this might not be until the borrower passes and the home is sold by their estate. 

Since reverse mortgages can minimize the amount your heirs receive when you pass, they should be considered with caution. They also have additional requirements that can increase costs or make them unsuitable. 

What are the risks of using home equity?

“The primary downside of borrowing against your home equity is that you put your home at risk if you’re unable to repay the debt,” Adams says. “If you miss payments on a debt secured by your home, your lender may foreclose and force a home sale to repay the outstanding balance.”

Declining property values are another risk. If an economic downturn or poor local market conditions cause your home value to drop, you could end up with an underwater mortgage. That means you’d owe more on your home loan than your home is worth, making it difficult to sell and repay the balance if you need to move.