How to Calculate Home Equity

Your home equity is the difference between the appraised value of your home and your current mortgage balance(s). The more equity you have, the more financing options may be available to you.

Your equity helps your lender determine your loan-to-value ratio (or LTV). When there is more than one loan against the property, the total of all loans divided by the property value is called the combined loan-to-value, or CLTV. It also helps your lender determine whether or not you’ll have to pay for private mortgage insurance (PMI). To avoid PMI, your LTV typically needs to be 80% or less, but PMI applies only to first liens .

For example, Joe and Marie own a house that’s currently worth $300,000. Their first mortgage balance is $127,000, and they have a home equity line of credit with a balance of $30,000. The total amount of the first mortgage and home equity line is $157,000. The amount remaining after subtracting $157,000 from $300,000 is $143,000. This is the approximate dollar value of Joe and Marie’s home equity.

A property’s LTV or CLTV ratio is expressed as a percentage and is calculated by dividing the mortgage balance(s) owed by the home’s current value. Using the example of Joe and Marie’s home, the CLTV ratio is calculated by dividing their $157,000 by the $300,000 home value, which comes to 52.33 percent. Their equity, then, equals their $143,000 in home equity divided by the $300,000 property value, or 47.67 percent.

Home Equity and LTV: This Relationship Isn’t Complicated

For homeowners wishing to refinance or take out a home equity loan or line of credit, the question “How much is my house worth” takes on additional implications. For a refinancing homeowner, the loan-to-value of a refinance affects what he or she pays for the mortgage and determines how easily the new loan will be approved. If adding a second mortgage, the combined loan-to-value, which equals the LTV of the first mortgage plus the LTV of the second mortgage, is the driving factor. So if Joe and Marie wanted to refinance both their first and second mortgages into a single new loan, the LTV of the new loan would be $157,000 / $300,000, or 52.33 percent. If they wished to increase their line of credit by $50,000, their new CLTV would be $207,000 / $300,000, or 69 percent.

Home equity provides a cushion in the event that the homeowner needs to sell, and it may also function as a source of emergency cash. Property values can change, and if the mortgage balance exceeds the home’s value, the owner would have to pay the difference if he or she needed to sell the house. This situation is referred to as being “upside down” or “underwater.”

The appraisal

A professional appraisal is an essential part of determining your loan-to-value ratio. If an onsite appraisal is needed, your lender will arrange for a certified appraiser to come to your home and calculate its value. Making smart improvements could positively affect an appraisal. It’s a good idea to consult an appraiser or a Realtor for advice before investing in any home improvements. And keep in mind that economic conditions can have a negative impact on home values regardless of improvements you make to your home.

How to impact your LTV ratio

One of the best ways to help reduce your loan-to-value ratio is to pay down your home loan’s principal on a regular basis. This happens over time simply by making your monthly payments, assuming that they are amortized (that is, based on a payment schedule by which you’d repay your loan in full by the end of the loan term). You can reduce your loan principal faster by paying a little bit more than your amortized mortgage payment each month (ask your lender if you will have to pay prepayment penalties if you do this).

Another way to impact your loan-to-value ratio is by protecting the value of your home by keeping it neat and well maintained.