Can you use the equity in your home to set up a business?

The equity in your home is the percentage of the property you own outright. You can estimate the equity in your property by subtracting your outstanding mortgage principal from the property’s current value. For instance, if you have $350,000 outstanding on your mortgage and your house is currently worth $600,000. In this case, your equity would amount to $250,000.

The equity in your house increases as your mortgage debt decreases through regular principal and interest repayments. Any appreciation in the property’s value also adds to equity over time. This may happen if property prices generally increase in your area through market forces or you make some renovations to the house that increase its value. 

One good thing about having home equity is that you can borrow against it to pay for any reasonable expense, including renovating your home, setting up a home office, investing in shares or funding your new business.

However, it’s unlikely that you’ll be able to use all of your equity to secure a loan. In most cases, lenders will want to restrict your borrowing to 80 per cent of the property’s price. Typically, the amount of equity you can use towards a loan can be calculated by subtracting your mortgage principal from 80 per cent of the property’s value. This figure is also known as your usable equity, which you can cash out to finance your business. 

There are two primary ways to access the equity in your house. One is using the equity in your property as security to borrow a lump sum amount that must be repaid with interest over a fixed term. You could use this amount to buy equipment for your home office or increase your working capital to keep the wheels moving. 

The other option is taking out a line of credit. This allows you to access funds up to a pre-approved credit limit against the equity in your property. It works more like a credit card. You can borrow money whenever you need it (up to your pre-approved limit) and use it for business purposes. You only pay interest on the funds you borrow.

Instead of taking out an equity loan, some homeowners tap into their equity by refinancing their mortgage for a larger one and taking out the extra money as cash. This is different from an equity loan, but it could be one of the options you may want to consider for financing your small business.

Once you have figured out the amount of usable equity available in your property, you could contact a lender and fill up an application form to apply for an equity loan. Similar to the turnaround time for a home loan, it could take a few days or weeks for your application to get approved. 

The lender may want to assess your income, living expenses and liabilities to determine the size of your loan. Some lenders will also want to perform a property valuation to assess your equity, especially if the property is relatively new or there’s not enough sales data available for comparable properties in the area. 

Your home equity is a valuable resource to access funds when needed, whether for a renovation project or funding small expenses for a business. However, it’s important to understand the potential risks of using up the equity in your home. 

Leveraging your equity could increase the balance owing on your home, which can lead to increased home loan repayments. Higher home loan repayments could strain your budget further if you are already struggling with your finances. 

Before you borrow money against the equity in your home, it’s also worth calculating the period over which you will repay the amount. There’s generally no fixed term for a home equity loan. It can be added to your home loan and paid over its term. However, it’s not always a good idea to stretch a small loan amount over the long term. Even with a competitive interest rate, the amount of interest you pay over the years could add up substantially. 

Therefore, it’s worth speaking with a financial expert and comparing your options before deciding the right way to finance your business.

If you are looking for capital to expand your business, you could consider a traditional business loan, which may be secured or unsecured, depending upon your requirements and asset position. However, you may find it challenging to get an unsecured business loan if you are trying to set up a new business rather than borrowing working capital for an established business.

If you don’t need a large sum of money, it may be possible to use a personal loan instead of a home equity loan for business purposes. However, it’s worth checking whether or not your chosen lender provides personal loans for this purpose. You should also keep in mind that a personal loan is taken out by an individual and not a company. Therefore, the responsibility for the loan is on you, and if you fail to make the repayments, your credit rating will be adversely affected, which could make it harder to access credit in the future. You can also check out the government’s list of national/state grant schemes to help fund your startup.