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MoneyWatch: Managing Your Money

How to calculate your home equity

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By Kelly Ernst

/ CBS News

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The higher your home equity, the more you may be able to borrow with a home equity loan or HELOC. /Getty Images

It pays off to truly understand the value of being a homeowner, especially when money's tight. Rather than resorting to taking out personal loans or racking up credit card debt, you can consider tapping into your home equity — which is the value of your home minus what's currently owed on the mortgage.

Home equity loans and home equity lines of credit (HELOCs) are two ways to access your home equity to pay for anything you like. And if you use them for IRS-approved home repairs and improvements, the interest you pay may be tax-deductible.

With a home equity loan, you take out a lump sum and payments begin as soon as you get the funds. With a HELOC, you receive a line of credit and withdraw funds as needed. You pay back only the amount you've borrowed and repayment starts after the draw period ends. Which option is best for you depends on your needs.

Calculating your home equity is simple. Let's break down how to do it and why it's important to know this number.

 If you're looking for a home equity loan or HELOC, .

How to calculate your home equity

You can calculate your home equity by deducting your outstanding mortgage balance from the current market value of your home.

For example, say you purchased your home for $400,000. You've since paid down $100,000, bringing your current balance to $300,000. Over that same period, your home's value has risen to $500,000. In this situation, your home equity would be $200,000 ($500,000 - $300,000). 

Why home equity matters

To qualify for a home equity loan or HELOC, most lenders require you to have at least a 15% to 20% equity stake in your home.

To convert your home equity into a percentage, divide the amount by your home's current market value and multiply the result by 100. In the example above, you'd divide $200,000 by $500,000 to get 0.40. You'd then multiply 0.40 by 100 to get 40. That means you have 40% equity in your home.

Note that lenders won't allow you to borrow your total equity amount. Typically, you can borrow up to 80% to 85% of your home equity. So, in the example above, you may be able to borrow $160,000 to $170,000. The actual amount you're approved for depends on your home equity amount plus other factors, such as your credit score and income.

to see how much you might qualify for.

The bottom line

Whether you opt for a home equity loan or HELOC, you can increase the amount you can potentially borrow by doing things to boost your home equity, such as making improvements that raise your home's value and increasing your mortgage payments. To find the best home equity loan or HELOC rate, do your homework by shopping around, comparing lender offers and considering your needs and budget.

Edited by Jennifer Earl

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