Definition
Equity is ownership of property.
Analysis
Equity may be absolute, or it may be shared between an owner and other entities that have a lien on the property. An owner’s equity is normally the value of the property that has been accrued through an initial down payment, periodic principal payments and appreciation of the property.
Sometimes an owner may be a partnership, in which each partner has a share of the equity. Equity is calculated as the certifiable value of a property, less any amounts due to lienholders. The value of the property is generally agreed to be market price. Market price takes into account external factors that could add to or subtract from the appraised value of a property. Any seller fees could also reduce owner equity at the time of a sale.
A property owner with equity may have additional borrowing options. These can include refinancing with a higher principal mortgage loan, or even cashing out equity through a home equity line of credit.
As the principal balance is reduced on loans, equity can increase. If the appraised value goes down, equity can decrease. Owner equity normally increases through appeciation of real property and with regular principal payments. However, in some depressed housing markets, some owners experience dropping equity, in which the property depreciates at a rate faster than the principal payments are received. In such situations, a homeowner may even experience negative equity, in which more is owed on the property than the property is actually worth.
Some interest-only mortgages result in negative equity. Many long-term vehicle loans are structured so that the owner has negative equity in the vehicle. The car depreciates faster than the loan is repaid, leaving the owner with limited options for selling the vehicle.
