How Home Equity Loans Work

How Home Equity Loans Work

Home equity is a large asset to most people which sits there untapped, and in a housing market where prices have risen, it could be a larger sum than you thought. To explain home equity, how it works and what you can do with it we'll first look at how equity is created and the value it can sometimes bring.


Home equity is the value you've acquired over time in your property.   It's defined as the difference between the current market value of your home (if it were placed on the market today) less the amount of your mortgage outstanding.   In other words, the net amount of equity you have in a property after deducting the mortgage owing.

Let's say you own a home which, in the current market, would be worth $800,000.   You have been paying off your mortgage for a couple of decades and now have only $150,000 left on your mortgage, which means you have available equity of $650,000.  That's great news!

The property market can also give a significant boost to home equity.   In rapidly rising property markets, it's likely for home owners to increase their level of equity after only a few years or even months!

For example, you may buy a home for $800,000 at time of purchase.    Population movements and migration may create a shortage in housing over a period of years, and may mean that demand for property increases at a faster rate than supply, therefore people are willing to pay more for a home. This could mean that your home has increased in value, even if you haven't done anything to it !

In some places across New Zealand, house prices have been known to rise by over 10% in a single year.  This means an $800,000 house could be worth $880,000 within 12 months purely due to price movements in the property market.


A major risk for homeowners looking to take advantage of this equity increase is that the property market can also slow.   This happened in the Global Financial Crisis where homeowners were paying for mortgages on houses that were no longer worth what they had paid for them.   Yes, property values can go up or down over time.

This is why using equity needs to be done carefully, and with professional advice.

It's also worth noting that interest rates on the amount borrowed can change over time, just like the value of your home.  If you borrow too much and interest rates increase, will you struggle to maintain the loan repayments ?

It's critical that borrowers understand all of these associated risks, and seek the help of a professional to understand your options.


Because equity is a nominal value tied to your home, it becomes similar to any paper asset.  You are able to leverage the value of the asset to borrow against it.  You can even use it to renegotiate your existing mortgage and potentially obtain a better deal.

You may choose to use your home equity to raise additional finance for many different purposes:

  1. Buy a rental property
  2. Buy a holiday home
  3. Help a child get on the property ladder
  4. Refinance your mortgage
  5. Get some home improvements finished
  6. Fund overseas travel
  7. Start up a business
  8. Finance a new hobby
  9. Buy that dream toy
  10. Support a child's education
  11. Fund building a home for a parent
  12. Unexpected medical of health costs


If you are considering using a home equity loan to fund any of the above then it will be worth noting that you really need at least 20% equity in your house to unlock lending against your home.

This is exactly the same as getting a mortgage in the first place (a 20% deposit is often required) and is applied no matter what purpose the home equity loan is used to fund.

For example, if you want to buy a $300,000 rental property you will typically need at least $60,000 in home equity to be eligible for a home equity loan. This can be achieved by:

  • Your home increasing in value by $60,000
  • You paying off $60,000 of your mortgage
  • A combination of you paying off $30,000 of your mortgage and your home increasing in value by $30,000


You can estimate your home equity by assessing your home's current market value and by deducting the amount left on your mortgage.

A website like QV will tell you an estimate of your home's value and your mortgage statements will tell you the current balance left to pay.  Here's a simple calculation to give you a very rough estimate of the equity tied up in your home:

Estimated Home Value - Remaining mortgage balance  =  Estimated available equity


If you are interested in discussing options around taking advantage of your home equity then your first step should be to book a no cost meeting with a mortgage advisor.   They will be able to assess your individual circumstances and help you get a more accurate understanding of your home's value and your financing options.

Because a mortgage advisor isn't trying to sell you a 'one size fits all' solution, they will be able to evaluate your personal financial options and explain the possible benefits available to you.   There are many reasons to use a mortgage advisor but the main one is that they are independent of any financial institutions and will tailor a package that best suits your individual needs.

Set-up a no obligation, and completely free discussion with your local advisor here.