Americans' Home Equity Is Soaring -- Here's What You Need to Know

The average American homeowner gained $16,000 in home equity over the past year alone. In this segment from Industry Focus: Financials, host Jason Moser and Fool.com contributor Matt Frankel, CFP, discuss when it's a good idea to tap into your home equity and when you should leave it alone.

A full transcript follows the video.

This video was recorded on Sept. 24, 2018.

Jason Moser: We're going to talk a little bit about home equity and a report that was released recently by data analytics provider CoreLogic. It showed that home equity rose 12.3% year over year in the second quarter of 2018, meaning that the average homeowner in the U.S. saw their equity increase by a little bit over $16,000 in one year. Matt, I swear, I knew I felt richer. But now here's the proof.

This, obviously, is average numbers. We're talking about everywhere from California to Northern Virginia and everything in between. With that said, I mean, some geographic regions saw bigger absolute dollar bumps than others. But the bottom line is that as homeowners, this matters.

I'm a homeowner, you're a homeowner. I think it's a conversation worth having. I always think about this home equity, and I wonder how other people view their home equity. Is it a security blanket? Is it an emergency fund? Is it something that you use to travel? I mean, how do you personally look at your home equity today?

Matt Frankel: I mean, I look at it mostly as an emergency fund. It's nice to have if I need it. Home equity is generally a low-cost form of borrowing, in terms of interest rates, because it's backed up by your home. You can generally get a home equity loan or line of credit for less than you could get, say, a personal loan. In that sense, it's a nice emergency fund if you need it.

I don't like to view it as a capital piggy bank as a lot of people do just because, it's your house. You want to build equity. That's half the purpose of being a homeowner, is to eventually build up some equity over time. If you're going to use your home equity, I always suggest doing it on things that are going to enhance the value of your home. My home is only four years old, so we haven't had to do any major renovations yet. But, say, if, in 20 years, I need a new kitchen, that's something I would consider using my home equity for because it's going to enhance the value of my home.

I hope Americans don't start getting into the habit of using their home equity for, say, vacations, or to buy a boat, or making other big purchases like that, as we saw before the financial crisis. That's where it starts to lead to trouble. Yes, you have equity in your home now, but as we saw ten years ago, it could just as easily go the other way. You could have $100,000 of equity in your home right now, but then your home drops by $100,000 in value. Now you don't have equity. Now you owe money against an asset that isn't worth what it's backing. It can just become dangerous.

So, I'd say it's an emergency fund. It's nice to be there. But be careful when you use it.

Moser: Yeah, there is history on our side here. I know what you mean. We saw that back in 2005. I was working at Bank of America as a loan officer in the early 2000s, I think it was 2000-2002, in that in that general area, where all you had to do is walk into a banking center and tell us that you wanted to refinance, and you were pretty much approved right on the spot, no matter what. We saw that money going toward all sorts of different uses. I tend to agree with you. I look at our home equity and I think, that's a nice emergency fund if we need it. Ultimately, I hope it's a nice tailwind when we decide to perhaps downsize a little bit, once the kids are older and moved out. I definitely would not support tapping our home equity for anything frivolous.

Now, I mean, to your point, enhancing the home, making repairs or additions, I think that makes sense. A point here worth noting, beginning in 2018, the interest on home equity debt is no longer deductible unless it was used to buy, build, or substantially improve your home. It is a little bit of a different scenario today than it was 10-15 years ago. That's probably not the reason people took out that debt, because they knew they could deduct it from their taxes. But it does seem like, at least today, there is less incentive there. It doesn't mean you can deduct everything under the sun.

I think that probably makes the most sense. It's interesting to note, too, that on top of the equity news, average FICO scores -- which are essentially that borrower's report card, that's going to determine what kind of a credit risk you are -- FICO scores are at all-time highs, an average of 704. That's pretty phenomenal. I know my FICO score, it's better than 704, but I consider myself on top of our bills. That means that people are able to borrow. That's worth noting, as well. I do think it's worth noting, the changes on the deductibility of that interest.