Equity in a Rental Property: How It Builds and How to Use It
The part of a property you actually own outright: its value minus whatever you still owe on the loan. Grows over time from two things combined: paying down the loan, and the property going up in value.
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Equity is the part of a property's value that is yours: its market value minus what you still owe on it.
The formula
Equity = Current market value - outstanding loan balance
A house worth US$165,000 with a US$118,000 mortgage carries US$47,000 of equity.
The four ways it grows
- Your down payment. Equity on day one.
- Loan paydown. Each payment retires some principal. Slow at first, accelerating later.
- Market appreciation. Outside your control. See appreciation.
- Forced appreciation. Renovation that raises value by more than it cost.
An example over five years
A US$150,000 purchase, 20% down, 7% over 30 years, 3% annual appreciation:
| Value | Balance | Equity | |
|---|---|---|---|
| Close | US$150,000 | US$120,000 | US$30,000 |
| Year 1 | US$154,500 | US$118,700 | US$35,800 |
| Year 3 | US$163,900 | US$115,800 | US$48,100 |
| Year 5 | US$173,900 | US$112,500 | US$61,400 |
Equity roughly doubles in five years, about 60% of the gain from appreciation, 40% from paydown. This is the quiet part of total return that never shows up in monthly cash flow.
Getting at it
- Cash-out refinance. New larger loan, difference in cash. Usually capped at 70% – 75% LTV on an investment property. Resets your rate, which matters a lot if your current one is low.
- HELOC. A credit line secured by the property. Flexible, usually variable-rate. Common for funding the next deal, including from a Canadian property.
- Sell. Realizes it in full, and triggers capital gains tax and depreciation recapture.
The refinance step in a BRRRR strategy is exactly this: force appreciation through renovation, then pull the created equity back out to buy again.
Why it isn't cash
Equity is not spendable until you borrow against it or sell, and both have costs. It is also an estimate. The "value" half of the formula is only confirmed by an appraisal or an actual sale, and an appraisal coming in below expectation is the most common way a cash-out refinance fails.
Borrowing against equity also raises your payment and your break even ratio. Equity is a cushion; spending it removes the cushion.
Related reading
Total return places equity growth alongside the other ways a rental pays.
Longer reads on this
Related terms
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