Home loans
What Is an Equity Loan? Borrowing Against Your Home Equity
An equity loan lets you borrow against your home equity. Learn what an equity loan is, how borrowing against home equity works, and the risks to weigh up.
An equity loan is a way of borrowing against the equity you have built up in your home. Home equity is the value of your home, less any money you still owe on it, and an equity loan lets you turn part of that value into funds you can use. People look at a home equity loan to renovate, to invest, to consolidate other debts, or to free up cash in later life. This guide explains in plain terms what an equity loan is, how borrowing against home equity works, the main ways to do it, and the risks to weigh up before you decide.
This is general information only. What suits you will depend on your circumstances and each lender’s criteria.
The guidance below draws on the Australian Securities and Investments Commission, known as ASIC, and its MoneySmart service, the government’s independent money guidance.
If you are weighing up borrowing against your home, the lending side comes together on our home loans hub.
What an equity loan actually is
An equity loan is borrowing that uses the equity in your home as security. To see how much equity you have, take the current value of your home and subtract what you still owe on your mortgage. MoneySmart describes home equity as the value of your home, less any money you owe on it. The portion you own outright is your equity, and an equity loan lets you borrow against some of it.
A simple example helps. If your home is worth 700,000 dollars and you owe 400,000 dollars on your mortgage, your equity is 300,000 dollars. You cannot usually borrow all of that, because lenders keep a buffer between what you owe and what your home is worth, but the equity is the pool an equity loan draws from.
Borrowing against home equity is not free money. It is debt secured against your home, which means the same property that backs your mortgage also backs the new borrowing. That has real consequences, which we come to below. If you are still getting your head around how the underlying loan works, our guide to what a mortgage is covers the basics.
How borrowing against home equity works
There is no single product called an equity loan. The term covers a few ways of accessing the value in your home, and the right one depends on your age, your plans, and your lender’s criteria.
The most common approach during your working years is to increase or refinance your existing home loan. You ask a lender to lend you more against the property, either by topping up your current loan or by replacing it with a larger one. The extra funds become available to use, and your loan balance rises. Because this changes your loan, the costs and rules of switching apply, which we cover further down.
A second approach is a separate facility against the same property, such as a line of credit or a second loan, where the home is used as security. The mechanics differ by lender, but the principle is the same. Your home secures the borrowing.
A third approach is equity release in later life. MoneySmart explains that equity release means accessing the equity in your home while you keep living there, through products such as reverse mortgages, home sale proceeds sharing, equity release agreements, and the Government Home Equity Access Scheme. These are aimed at older homeowners and work very differently from topping up a loan while you are working, so we treat them separately below.
Borrowing against equity while you are working
If you are still working and servicing a mortgage, borrowing against equity usually means lifting your loan. You keep making repayments, your balance is higher, and the extra funds are yours to use for the purpose you arranged.
Two figures matter here. The first is your equity position. MoneySmart notes that lenders mortgage insurance, often shortened to LMI, can apply when you have less than 20 percent equity in your home. Borrowing more against your home can push your equity below that 20 percent mark, which may trigger an LMI bill on top of the new borrowing.
You can read more in our guide to what lenders mortgage insurance is and our guide on how to avoid LMI. How your equity is measured against your loan is set out in our guide to what LVR is.
The second figure is the cost of changing your loan. Because increasing or refinancing your loan is a form of switching, MoneySmart lists the costs to weigh up: a break fee if you exit a fixed rate early, a discharge or termination fee on the old loan, an application fee on the new loan, lenders mortgage insurance if your equity is under 20 percent, and possibly stamp duty. MoneySmart also notes there can be an interest rate difference of more than 2 percent across variable home loan rates on the market, so it can pay to compare and to negotiate with your current lender first.
Equity release in later life
Equity release is a different path, aimed at older homeowners who want to draw on their home’s value without selling. The best known product is a reverse mortgage.
A reverse mortgage lets homeowners aged 60 and over use the equity in their home as security to borrow. MoneySmart notes that at age 60 you can usually borrow about 15 to 20 percent of the value of your home, and this can rise by roughly 1 percent for each year you are over 60. You stay in your home and do not have to make repayments while you live there. The interest compounds over time, and the loan is repaid when you sell, move out, or die.
There is an important protection to know about. MoneySmart explains that reverse mortgages taken out from 2012 carry a negative equity guarantee, so you cannot end up owing more than the value of your home. Even so, because interest compounds, the amount owing can grow significantly over the years, which reduces what is left for you or your estate.
How working-life borrowing and equity release compare
Borrowing against equity while you work and equity release in retirement solve different problems and carry different rules.
| Topping up while you are working | Equity release in later life | |
|---|---|---|
| What it is | Increasing or refinancing your existing loan to borrow more against the property. | Accessing equity while you keep living in the home, such as through a reverse mortgage. |
| Repayments | You keep making repayments on the larger balance. | With a reverse mortgage you do not make repayments while you live there, and interest compounds. |
| Who it suits | Working homeowners servicing a mortgage. | Homeowners aged 60 and over, per MoneySmart. |
| A cost or risk to watch | LMI may apply if borrowing pushes your equity below 20%, plus switching costs. | Compounding interest reduces what is left for you or your estate, even with the post-2012 negative equity guarantee. |
The risks of borrowing against your home
The central risk of any equity loan is the one that defines it. The borrowing is secured against your home.
MoneySmart puts it plainly for one common purpose: if you borrow against your home to invest, it puts your whole home at risk, not just the portion you are investing. That warning is worth holding on to whatever the purpose, because the security is your home either way.
There are knock-on effects too. Borrowing more raises your repayments or extends how long you carry the debt, and lifting your loan can move you below the 20 percent equity mark that brings LMI into play. With equity release, the compounding interest can erode the value you have built up. None of this means an equity loan is wrong for you. It means the decision deserves a careful look at your numbers and your goals.
Features that sit alongside an equity loan
Two features often come up when people structure borrowing against their home, because both can help manage interest on the larger balance.
A mortgage offset account is a transaction account linked to your home loan. MoneySmart explains that the balance in the offset reduces the part of your loan that is charged interest, worked out daily. On a 500,000 dollar loan with 20,000 dollars sitting in the offset, interest is charged on 480,000 dollars only.
A redraw facility works differently. With redraw, the extra repayments you make go straight onto your loan, and you may be able to withdraw those extra repayments later if you need to, depending on your loan terms. Both features can be useful when you are carrying a larger balance, though which one suits you depends on the loan and the lender.
How borrowing against your equity usually works
The order of events when you lift your loan to access equity tends to follow a clear path, though the detail varies by lender.
Check the numbers before you decide
Whether you are topping up a loan, setting up a separate facility, or weighing equity release, the decision rests on figures specific to you: your equity, the value of your home, your repayments, and the costs each path carries.
A borrowing power estimate is a sensible early check. It shows the ballpark you are working within before you commit to a structure.
Try the borrowing power calculator
Open the calculator to run your own numbers.
You can use the borrowing power calculator to get an estimate, then read it alongside your current loan and your goals.
Where Finance Lab fits in
Gathering these facts gets the decision on the table. Reading them against your equity, your purpose, your stage of life, and a panel of lenders is where it gets personal, and that is where guidance helps. The team at Finance Lab can talk you through whether borrowing against your equity suits your plans, which approach fits, and the lender criteria you may need to meet.
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