How to Use Equity to Buy Another Home

Key Takeaways:

• You can use your home equity to buy a second home, without selling your current property.
• Traditional equity options involve monthly payments, while alternatives like home equity agreements don’t add to your monthly obligations.
• The best way to access your home equity depends on your financial goals and risk tolerance. 

Buying another home doesn’t necessarily mean you have to sell your current house. If you’ve built equity in your home, you may be able to use that money to fund a second home purchase. 

This strategy can help you avoid draining your savings or liquidating other assets, but there are trade-offs involved. Let’s look at how to use home equity to buy another house and some different ways to access that equity. 

What Does it Mean to Use Equity to Buy Another Home?

Using equity to buy another home means you’re tapping into the value you’ve built in your current home to finance a second purchase. Home equity is the difference between what your home is currently worth and what you still owe on your mortgage. As you pay down your loan and your home value rises, your equity grows and, in many cases, can be converted into cash without selling the property.

If you’re looking to buy a second house, like a vacation home or rental property, you can use your equity to finance the purchase. Instead of spending years saving or liquidating other assets, you can use your equity to cover costs like a down payment and closing costs.

Ways to Use Equity to Buy a Second Property

There are several ways to access your home equity, and each one works a little differently. Some options involve taking on more debt and an additional monthly payment, while others let you tap equity without monthly payments.

Home Equity Loan

When you take out a home equity loan for a second property, you’ll receive a lump sum payment, so it’s ideal when you know exactly how much you need to borrow. The loan comes with fixed interest rates and predictable monthly payments. The stable monthly payments make budgeting easier, especially when compared to variable-rate options. However, you will have a second monthly payment on top of your existing mortgage. And because your home is used as collateral for the loan, your lender can foreclose on the property if you’re unable to make your monthly payments.

HELOC

A home equity line of credit (HELOC) is kind of like a credit card secured by your home. You’re approved for a credit limit and can draw from it on an as-needed basis. This gives you flexible access to the funds over time, which is helpful when you don’t know exactly how much you’ll need to spend. And you’ll only pay interest on the amount you actually borrow. But a HELOC usually comes with variable interest rates, so your payments can rise based on market conditions. And having access to a revolving line of credit can make it easy to overspend, increasing your long-term costs.

Cash-Out Refinance

A cash-out refinance replaces your current mortgage with a new, larger loan, and you take out the difference in cash. This option is usually best when you can secure a lower interest rate. The best of a cash-out refinance is that you’ll still have a single monthly mortgage payment instead of two.  But you will reset your loan terms, which can increase the amount of interest you’ll pay over the life of the loan. And a cash-out refinance isn’t ideal in high-interest-rate environments.

Home Equity Agreement (HEA) 

A home equity agreement (HEA) allows you to access a portion of your home equity without replacing your current mortage. Instead, you’ll receive a lump sum payment and will give an investor a share of your home’s future value.  There are no monthly payments of principal or interest, which makes HEAs ideal for homeowners who want to preserve cash flow. They also tend to offer more flexible credit requirements than traditional lending options. However, if your home appreciates significantly over the course of the agreement, you may pay more than you would have with a traditional loan.

How a Home Equity Agreement Can Help You Buy Another Home

An HEA offers a different way to access your home equity to purchase another home, and it doesn’t involve taking on additional debt or committing to another monthly payment. Instead of borrowing against your home, you’ll receive a lump sum payment in exchange for a portion of your home’s future value. These funds can be used to cover the down payment, closing costs, and other expenses involved in buying a house. 

Because there are no monthly payments, an HEA can help preserve cash flow while you take on the costs of buying a second property. This can make it easier to manage two homes at once.

HEAs also tend to be easier to qualify for than traditional loans since approval isn’t based solely on your income or debt-to-income (DTI) ratio. This makes HEAs a good option for non-traditional borrowers, like self-employed or recently retired individuals. An HEA allows you to bypass rising interest rates or variable payments.  As with any lending option, it’s important to weigh the benefits and trade-offs before committing to an HEA. But an HEA can provide a flexible way to buy another home without selling your current property.

Things to Consider Before Using Your Equity 

Using your equity to buy another home can be a good move, but it’s important to evaluate how this decision fits in with your broader financial goals. Start by considering how much equity you’re comfortable using and the risks involved. Tapping equity reduces the amount of ownership you have in your home, which matters if you’re planning to eventually sell or pass the home on to your heirs.

As you’re evaluating different lending options, think about how you want to manage cash flow. Choosing an option that includes additional monthly payments can strain your budget, creating short-term pressure. 

The housing market can be unpredictable, so it’s also important to consider interest rates and market conditions. Variable-rate products can become more expensive over time, while refinancing in a high-interest-rate environment can lock in higher borrowing costs.

Finally, think about how long you plan to stay in your current home. Some equity strategies work best as short-term solutions, while others might make sense for homeowners with a longer time horizon. 

Conclusion

Think carefully when using equity to purchase a second home. The way you access equity matters, and each option comes with its own trade-offs, from monthly payments to higher borrowing costs.

A home equity loan, HELOC, or cash-out refinance may be a good fit for homeowners who are comfortable managing the payments. For individuals who want to preserve cash flow or avoid rising interest rates, an HEA allows you to access equity without taking on monthly payments. Take the time to understand how each option works so you can choose strategically.