If you’re a homeowner and your goal is to maintain a debt-free lifestyle, knowing how much equity you should have before you sell is vital. Selling your home without building enough equity to cover the associated costs can set you back on the road to financial freedom. Let’s take a look at home equity and what it takes to sell your home free and clear.
It’s important to know what the term equity means when it comes to residential real estate. At the simplest level, equity is the amount of your home you own free and clear. A more detailed explanation of equity is the market value of your home minus the amount you owe on your mortgage.
For example, if the market value of your home is $375,000, and you still owe $125,000 on your mortgage, $250,000 would be the amount of equity you have in your home (give or take). It’s a little more involved than that, but you get the basic idea.
Thankfully, the residential real estate market typically follows an upward trajectory when it comes to home market values. In other words, the longer you remain in your home, the more time your house has to appreciate in value, thus the greater the market value will be when you go to sell. Appreciation plus continuing to pay down your mortgage are two ways you build equity in your home.
There are plenty of home equity calculators available online, which are good for keeping an eye on your equity over the years. But, if you’re using calculated equity as a guide to selling your home — and maximizing your profit — you’ll need to take a deeper look at the numbers.
While calculating a rough estimate of home equity is pretty straightforward, when you’re preparing to sell, you want to get vetted numbers to work with. The most accurate number will come from a local real estate agent. Agents use comparative market analysis — area comps and their knowledge of the local housing market — to determine the fair market value of your home. The number your agent generates will be most accurate.
You also want to factor in seller’s expenses when determining the profit you’ll be walking away with at closing, so figure on paying between six and seven percent of your sale price for commission and closing costs. For example, the fair market value of your home (your projected selling price) is $375,000. At seven percent commission and closing fees, you would receive $348,750 from the sale of your home after closing. If your remaining mortgage balance is $125,000, your home equity is $223,750.
If you’re selling due to relocation, you’ll likely be looking at purchasing a home that’s roughly the same size and price as the one you currently own. In that case, you’ll want to make sure you’ve built enough equity in your current home to cover closing costs and a downpayment on your new home. If you’re selling to upgrade to a larger home, you want to make sure you’ve built enough equity to cover downpayment, commission and closing costs.
You know you have enough equity to sell your home if the sale price is enough to cover commission and closing fees, in addition to paying off your outstanding mortgage, without having any out of pocket expenses. And when you’re calculating affording a new home, you want to make sure your equity will also cover that down payment.
While there isn’t a one-size-fits-all number to give out, knowing how to calculate home equity is the key to determining the amount you’ll need before you sell.