What was your rate of return on home equity last year?
You are going to be surprised but no matter what part of the country you live in the answer is the same. Before I give you the answer lets find out if you can figure it out for yourself.
First let us define home equity - it is the result of subtracting the total amount of mortgage debts owed from the current market value on a piece of real estate. This result can be either a positive or negative number. I am going to use two similar families in an example to ascertain if we can find the formula for calculating a rate of return on home equity.
Bobby Knows-it-all
Has $150,000 from the sale of his home. And buys a Home for $250,000. He puts a large down payment of $150,000 so he can save on paying interest to the bank. He obtains an interest-only loan for $100,000 at a 7% rate for 10 years. His payment is $583.33 a month. |
|
Mikey Does-it-right
Also, has $150,000 from the sale of his home. And buys a Home for $250,000.00. Mikey only uses $50,000 for a down payment and gets a loan for $200,000. Same terms as Bobby so his payment is $1,166.67 a month. |
After five years his home appreciates to $350,000.
What is his equity position in year five? |
After five years his home appreciates to $350,000.
What is his equity position in year five? |
Calculate Equity ROR
Bobby |
|
Mikey |
$250,000.00 |
Price |
$250,000.00 |
- $150,000.00 |
$ Down |
- $50,000.00 |
| |
$100,000.00 |
Mortgage |
$200,000.00 |
Five years later |
$350,000.00 |
Value |
$350,000.00 |
- $100,000.00 |
Mortgage |
- $200,000.00 |
| |
$250,000.00 |
New Equity |
$150,000.00 |
- $150,000.00 |
$ Down |
- $50,000.00 |
| |
$100,000.00 |
Gain |
$100,000.00 |
| |
|
|
So it seems that regardless of down payment both Bobby and Mikey each gained the same amount in the five years owning this property. So what is the rate of return on equity? The answer is: There is no rate of return on your home equity! Your property may or may not appreciate but your home equity earns no rate of return.
|
