How to Factor Home Equity Into Your Financial Plan

0:05Which stocks have led the rally since April? And how should you factor home equity into your financial plan? You're listening to the Saturday Personal Finance Edition of Motley Full Money.

0:20Which stocks have led the rally since April? And how should you factor home equity into your financial plan? You're listening to the Saturday Personal Finance Edition of Motley full money. I'm Robert Brokamp, and this week I speak with Fool contributor Matt Frankel about the whys and hows of turning your home into cash. But first, let's talk about last week in money. We start with a post on X from Lizanne Saunders, the chief investment strategist at Schwab. Since President Trump announced a pause on tariffs on April 8th, the S &P 500 has returned 29 % as of August 18th, according to Saunders' post.

0:53But she highlighted which indexes have done the best and worst since then. And the winners aren't necessarily the types of stocks that would give you much faith in the rally. The top three performers have been the Goldman Sachs Non-Profitable Tech Index, the Goldman Sachs Most Shorted Index, and the UBS Meme Basket Index, all of which have returned more than 60 % since April 8th. At the bottom of the list are indexes of blue-chip dividend-paying stocks, such as consumer staples, which have returns in the low-to-mid single digits. So clearly, over the last four or so months, investors have been piling back into speculative growth stocks.

1:28But not exclusively. The current earnings season has actually been really solid, and many stocks have risen for good reason. Of the 11 major sectors as determined by S &P, the best performers since April 8th have been communication services and tech, which are dominated by the biggest companies in the U.S. In fact, for the first time ever, the 10 largest companies now make up 40 % of the S &P 500. Our next item, let's switch gears, which is kind of a pun because we're going to talk about car insurance. We've seen a lot of inflation over the past few years, but some of the biggest increases have been in vehicles and what it costs to insure them.

2:08According to Bankrate, the average annual cost of car insurance is almost$2 ,700, which is up 60 % over the past five years. The reason starts with the fact that cars have become more expensive, partially due to inflation, but also because cars have much more technology built into them than they did even just a few years ago. The average price of a new car in July was almost$49 ,000, according to Kelly Blue Book. But it's not just car prices that are driving up the cost of insurance. There's actually a shortage of mechanics in this country, so that's something to consider if you're looking for a job that's safe from AI, at least from now.

2:43There are also many more weather-related events than in the past. The cost of insurance also incorporates expenses related to healthcare and lawyers, and those have risen. Unfortunately, this may not get any better since tariffs may increase the cost of vehicles and their parts. So what should you do? Well, you might pay to do some comparison shopping if you haven't done so in a while, and look for insurers that offer discounts you may be eligible for based on your age, your driving history, the features of your car, maybe even your profession. You might consider raising your deductible, but it also may be time to reduce the amount of insurance you have, according to a recent article by Rachel Green of Kiplinger's.

3:18Once your vehicle reaches certain milestones, such as it being several years old or exceeding 100 ,000 miles, you might consider reducing the amount of your comprehensive and collision coverage. It'll depend on your state's minimum insurance requirements and the value of your car, which you can look up online at such sites as kbb.com, but Green estimates that you could save up to$1 ,800 a year by reducing your coverage, which you should then put in a high-yield savings account so that the money is available if you have to pay for repairs yourself or when you're ready to buy a new car. And now I come to the number of the week, which is 44.

3:51That's the percentage of adults who order kids meals at restaurants for themselves, according to a survey by Lightspeed Commerce and highlighted in a recent article from Market Watch by Charles Passy. The main reason, portion, smaller portions. With many Americans on appetite-suppressing GLP-1 medications, many just aren't as hungry. But higher prices are also a factor, which brings us to a recent Wall Street Journal article about McDonald's, which, by the way, sells 3.2 million Happy Meals each and every day. The average cost of a Big Mac value meal now is more than$10 but exceeds$18 in some locations, and customers aren't happy.

4:28So the company plans to work with its franchisees to lower the costs of some of its value meals later this year. As far as I'm concerned, when anything gets cheaper, that's good news. Next up, what should homeowners do with their equity, if anything, when Motley Fool Money continues? They say leadership isn't just about where you're going. It's about the conviction it takes to get there. For those who demand the world and possess the drive to claim it, there's a vehicle of equal distinction, dynamic by design and engineered for pure impact, the Range Rover Sport rises to meet you the moment you take the lead.

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5:39Exclusive offers are available now. Explore further at RangeRover.com. Your home plays a unique and multifaceted role in your personal finances. It's an ongoing and variable expense, including such items as utilities, these taxes and maintenance, the latter of which can result in unexpected bills and the thousands of dollars. If your home has a mortgage, then it's also a liability. And if you don't pay the bill, you could lose your home. But it's also a resource. In fact, for many Americans, their home is their biggest asset. Here to discuss how to factor your home into your financial plan is full contributor and certified financial planner, Matt Frankel.

6:13Matt, welcome to the show. Thanks, bro. I'm always happy to talk real estate in any form. Well, then let's kick this off with some stats. According to Redfin, the median home sales price in July was$443 ,462, near an all-time high, though actually slightly down from June. Now, if you own the home outright, that's how much equity you have, but almost two-thirds of homeowners still have a mortgage, and according to quotality, the average home equity is a bit more than$330 ,000 for those with a mortgage. According to the Case-Shiller National Home Price Index, prices have increased 52 % over the past five years.

6:49Anyone who's owned a home for at least the last few to several years has likely done very well. On the other hand, what good is an asset, even if it's increased in value, if it's illiquid? If you sell it, you still have to live somewhere. Matt, how do you think people should factor their home equity into their financial plans? There's a lot of home equity out there right now. You mentioned the median home sales price is up 52 % in five years. It's up 16 % since 2022, when pretty much everyone stopped refinancing, when interest rates started to rise. This isn't just the early pandemic zero interest rate bubble.

7:28Now, homeowners in the United States are sitting on$35 trillion of equity altogether. That's an all-time high. Very few people are tapping into it right now. But your home equity is a nice asset to have. It is an illiquid asset somewhat, like you mentioned, although technology is making it a little bit more liquid than it used to be. I don't know if you've refinanced in the past five years. It's a lot easier than it was, say, 25 years ago. It's more of a liquid asset, I would argue. Right now, the time isn't great to really tap into it, but it definitely can have a lot to do with your long-term financial plan.

8:07Let's talk a little bit about what someone might do. if they decide, okay, I do want to access some of that home equity. You talked about refinancing. Tell us a little bit about some of the options people have if they want to convert their house into cash. Yeah. If you want to convert your house into cash without selling it, there are three basic options, really. There are home equity loans, which are also generally known as a second mortgage, where you are getting another term loan. It has a fixed interest rate, Usually, it is monthly payments. A term, say 15 years, is a very common term for a home equity loan.

8:42And it works just like a mortgage, but it is second in priority to your main mortgage if you have one. Then there are home equity lines of credit, or HELOCs. You often see that abbreviated. These work kind of like a credit card. But when you swipe it, instead of you owing your bank money, you owe money against the value of your home. You can open a HELOC. It'll have a set limit, say$100 ,000. You only borrow when you need it. You only pay interest on the money you borrow. They can't have variable rates, which is a drawback of those. But it's a more flexible way if you want to have the option to pay for renovations as you go along or have the option to, if you have a child in college, you can only draw on it as tuitions do.

9:30Things like that. It's more flexible. And then third, there's the reverse mortgage, which is what it sounds like. It's the opposite of a regular mortgage. But instead of you making payments to the bank in exchange for building your equity over time, the bank makes payments to you. You're essentially selling them your equity over time. And that could be payments. It could be a lump sum. You have to be over 62 to use one of those. It's a common tool among retirees to produce extra cash flow in retirement. Let's talk about some of the pros and cons of some of those options. You've entered the home equity loan.

10:08That's great if you need a lump sum. Maybe you're doing a home renovation or something like that, and you could afford the payments. The HELOC used to be marketed as an emergency fund. Maybe it's something to use if your portfolio is down, let's say, and you're retired. You don't want to sell your stocks while you're down. You rely on the HELOC. But that changed somewhat, especially during the Great Recession or the GFC, depending on what you want to call it, because a lot of banks called in those loans. So right when people were relying on their HELOCs as sort of emergency funds, the bank said, sorry, you have to pay that back.

10:42You have to be open to that possibility. And then the third thing is the reverse mortgage. And to me, in theory, the reverse mortgage seems so attractive. And then you dig into the details about the upfront costs, the higher interest rates, definitely something to be fully aware of before you do it. On the pro side, if the loan grows to the point where it's actually bigger than the value of the house, you don't have to make up the difference. It's one of those things that almost like also a bigger emergency fund. Most people, I think, who take advantage of it, they kind of had to. but I totally understand it because for some people, that's the only way they can retire.

11:25Yeah. If you live until you're 100 years old, a reverse mortgage could definitely work out in your favor in that sense that you're going to keep getting your monthly payments no matter how big your balance gets. First of all, you mentioned the fees with reverse mortgages, and that's generally the most expensive option of the three. The other two aren't free. They have closing costs just like a regular mortgage does. There are costs associated. I refinanced in 2020. I don't know of any homeowners who didn't refinance when mortgage rates were about 3 % who owned a home around that time. But we did what's called a rate and term refinance.

11:59We didn't take any cash out. There are good and bad reasons to tap into your home equity. It's really important to point out. Home equity is not your piggy bank. It shouldn't be used for things like an elaborate vacation. It shouldn't be used for everyday expenses unless you're a retiree. It really shouldn't be used to speculate on investments. If you're thinking of pulling out all of your home equity and investing in cryptocurrencies, probably not the best idea. But there are some really good reasons. Bro mentioned doing a big project. That's one of the most common uses. And you can even deduct the interest if you do that, because it counts as qualified personal residence debt if you use the home equity proceeds on your home.

12:42If you have high-interest credit card debt, it could be a much better idea to, if you have$30 ,000 of credit card debt at 25 % interest, borrow against the value of your house and really knock that interest rate down. That could be one really good reason. There are some investment opportunities where it can make sense to tap into your home equity. A lot of real estate investors, for example. That's where they get their first down payment from for an investment property. Very few people who already own a home have 20 % for another home sitting in the bank. That's a very popular way to come up with a down payment for your first investment property.

13:19If you have major expenses that you need to pay, medical costs, if you have a child in college, some of the parent loans have higher interest rates than you'll get with a home equity loan. It can actually be an attractive way to borrow money for college. There are some really good reasons to do it. Let's talk about a couple other ways to turn your home into cash. One, of course, is just moving and downsizing, right? Maybe you have a big house because you raise your family and you don't need the big house anymore, or you just want to move to a lower cost area of the country. I live in the Northern Virginia suburbs of Washington, DC, but I grew up outside of Tampa using cost of living calculators that you can find on the internet.

13:58I calculated my cost of living could go down 30 % if I were to sell my home here in the DC area, move to Tampa, because your home determines all kinds of aspects of your bills, your taxes, your utilities. So it's not just realizing the cash from selling your home and buying another one. It could lower your monthly expenses. And then the other thing is something both of us have. We have a few things in common, Matt. We're both certified financial planners. We both began our careers as teachers, But we also, as teachers, rented rooms in other people's houses. And according to an article from apartmentlist.com, Americans now have more spare rooms than ever.

14:41According to their analysis, in 1970, only about 30-something, maybe 35 % of homes had a spare room. Now it's over 60%. So those are a couple other ways. What was your experience renting? Was it a basement or an attic in someone's house? It was like a lockout unit. They called it a pool house, but it was really just like a room with a separate entrance on the back of somebody's house. And that was in Key West, Florida. So, it was really a nice place to have a pool house. Would you ever rent out a room in your house? Maybe when the kids are out of the house. But you mentioned downsizing, and that's our general plan.

15:13Let's just say you have a house that's comfortable for your entire family. It's worth$700 ,000, and you owe$300 ,000 on it at the time you retire. Sell your house, you have$400 ,000 cash to buy a smaller place. And then you live mortgage-free. And that's what we're leaning toward. We're a little ways away, but that's our plan with home equity. We love our house. So we plan to live here for as long as we can. We love our area. We love our neighborhood. So the way we factor it into our plan is it's a big fat emergency fund. So it is our backup for if hopefully our portfolio will last as long as we do.

15:53But if not, we have our home equity. Plus, if we need extraordinary long-term care, we could use our home equity. You have to be careful with that because if, for example, you're using a reverse mortgage, you have to be in the house. So if both spouses are gone, then the mortgage has to be paid off. But for me, that's how we're factoring it into our plan. We live in, you mentioned, low cost of living areas like Tampa. We're in Columbia, South Carolina, where it's even lower cost of living. So we have a lot of square footage and the upkeep. I have two flights of stairs. I'm on the third floor right now.

16:26I don't want to be dealing with that when I'm in my 60s. We wanted to downsize even now when we have kids. Sometimes we want to downsize, but definitely over the long term. Let's switch gears ever so slightly from home equity and financial planning to what's actually going on in the housing market right now. What's your take? My general take is it's slowly but surely becoming more of a buyer's market. It has been really hard to find a home for sale because everyone has these 3 % or 4 % mortgage rates and no one wants to sell. Of course, some people have to sell. You get transferred from work or something like that.

17:04But people are holding out and we're seeing that starting to fade. Over the past year, existing home inventories are up 12%, but sales are flat. There's a lot more inventory on the market versus how many homes are turning. Your inventory is building. You mentioned earlier that home prices have actually declined over the past few months. They're still slightly up over the past year, but over the past three or four months, we've actually seen them pull back a little bit. One of the reasons is mortgage rates, I wouldn't call them low, but they're definitely the lowest point so far this year. Mortgage rates have a lot more to do with home affordability than even prices themselves.

17:44then you know that a roughly 2 % reduction in a mortgage rate is equal to a 20 % price reduction in your home in terms of your mortgage payment each month.

17:56Even the most bearish people think we're not going to get a 20 % home price drop. Really, mortgage rates are the key to home affordability. If rates come down even more, which I think they will, you're going to see a lot more buyers and sellers both rush into the market. not necessarily going to be a buyer's market, but definitely an active market compared to what we've seen. Well, Matt, this has been great. Thank you for sharing your insight and wisdom. Anytime. Trading at Schwab is now powered by Ameritrade, giving you even more specialized support than ever before. Like access to the Trade Desk, our team of passionate traders ready to tackle anything from the most complex trading questions to a simple strategy gut check.

18:37Need assistance? No problem. Get 24-7 professional answers and live help and access support by phone, email, and in-platform chat. That's how Schwab is here for you, to help you trade brilliantly. Learn more at schwab.com slash trading. It's time to get it done, fools, and we kick it off with a bank rate article from my former fool colleague, Dr. James Royal, who wrote, quote, the biggest wave of wealth in history is set to pass from baby boomers over the next 20 years, and it's going to have a huge impact on those who stand to inherit it. It's called the great wealth transfer when an estimated$84 trillion is poised to move from older Americans to Gen Xers and millennials, end of quote.

19:18Of course, not everyone will inherit it equally, right? According to the article, the top 1 % own as much as the bottom 90%. But everyone owns something and it'll have to go to someone when we each join that great tax shelter in the sky. The key to making the most of this wealth transfer is having an updated estate plan and making sure your relatives have one too. Unfortunately, most people haven't done this. According to the recent version of the annual Wills and Estate Planning Survey from Caring.com, only 24 % of Americans have a will, which is just one part of an estate plan. It should also include updated beneficiary designations on your retirement accounts and insurance policies, durable powers of attorney, healthcare directives, directions about who you'd want to raise your kids if something happens to you, and perhaps a trust.

20:03Without these documents, your assets may not go to the people you'd like to inherit them, and it will cost much more in time and money for your estate to get settled. So here's what to do. See an experienced attorney who specializes in estate planning and get your documents in order. Then say to your parents, siblings, any other relevant people, hey, I just updated my estate plan and here's where to find it if anything happens to me. What should we do if anything happens to you? Hopefully, this will start a productive conversation about their estate planning and allow you to nudge them to get their documents in order.

20:34because if they don't, you may be the person who pays the price. And that's the show. Thanks to Dan Boyd, the engineer for this episode. As always, people on the program may have interest in the investments they talk about and The Motley Fool may have formal recommendations for or against. So don't buy or sell investments based solely on what you hear. All personal finance content follows Motley Fool editorial standards and is not approved by advertisers. Advertisements are sponsored content and provided for informational purposes only. To see our full advertising disclosure, please check out our show notes.

21:07I'm Robert Brokamp. Pool on, everybody.