Building Wealth Through Homeownership 101

Homeownership is not only a dream come true for many, but it is also a great way to build wealth over time. By owning a home, you have two important things working for you when it comes to building wealth: property appreciation and paying down the principal on your mortgage. These two forces make homeownership an effective way to build and increase your net worth. However, many people do not understand the concept of paying down principal or why it is essential. I want us to explore the concept of paying towards the principal on a mortgage and how it reduces your interest responsibility. A lot of people do not think about the fact that you are increasing your net worth by paying towards your principal, so while you do that you also will have your home appreciating. Two birds with one stone kind of deal, not bad, right? Let’s dive in!

“Homeownership is the foundation of financial security and building wealth.” -Nela Richardson

What is Principal on a Mortgage?

When you take out a mortgage, you borrow money from a lender to purchase a home. The amount you borrow is the principal of your loan. The principal on your mortgage is the total amount you owe to the bank or the lender that you have borrowed money from to buy a home. Interest is the additional cost you pay to the lender for borrowing this money. When you make your monthly mortgage payments, the amount you pay towards the principal and interest is different. Initially, most of your monthly payment goes towards the interest, and a smaller percentage of your payment goes towards the principal. However, as you continue to make payments, the amount that you owe on the principal will decrease, and the amount of your payment that goes towards the principal will increase. This is called amortization. This is why the more money you can put towards your principal at the start of the loan, the better it is to save on interest!

“As you pay down the principal of your mortgage loan, over time, you’ll be paying for less interest, and you will see an increasingly significant percentage of each payment going toward principal” — Scott Sheldon

How Does Paying Towards Principal Affect Your Mortgage?

When you pay towards your principal, you reduce the overall amount owed on your mortgage. This will in turn reduce your interest responsibility, as the interest is calculated based on the outstanding balance. The less principal owed, the less interest you need to pay, and the quicker you will be able to pay off your mortgage. By accelerating the repayment of your mortgage, you will be able to reduce the amount of interest you pay, which will save you money over the life of the loan.

“As a borrower, you don’t want to pay more interest than necessary over the life of the loan. The less interest you pay, the quicker you can pay off the loan and build wealth through accruing home equity.” — Dan Green

What is Property Appreciation?

In addition to the benefits of paying towards your mortgage principal, you also have the potential to build wealth through property appreciation. Property appreciation refers to the increase in value of your home over time. The appreciation is due to various factors, including market conditions, location, and property improvements. While there are no guarantees in the housing market, historically, real estate has been one of the most stable long-term investments. When you own a home, you have the benefit of seeing its value increase year over year. On average, homes increase in value at a rate of 3–5% annually. This means that if you own a home that is worth $250,000 today, in ten years, it has the potential to be worth between $335,000 and $390,000. Appreciation is a fantastic way to build wealth because it allows you to increase your net worth without any additional effort on your part. Over time, your home equity will increase, and you can cash in on that equity if you choose to sell it, refinance it, or take out a home equity loan or line of credit.

“Real estate cannot be lost or stolen, nor can it be carried away. Purchased with common sense, paid for in full, and managed with reasonable care, it is about the safest investment in the world.” — Franklin D. Roosevelt

How Does Paying Towards Principal and Property Appreciation Build Wealth?

When you pay towards your principal and have your home appreciate, you are increasing your net worth. As you continue to pay down your principal, your equity in your home will increase. Equity refers to the difference between the value of your home and the amount owed on your mortgage. As you build equity, you will have more financial flexibility and use it for home improvements, emergencies, or other investments. Moreover, as the value of your property appreciates, your overall net worth is increasing even more. This next sentence is super important. By having these two forces working for you in building wealth through homeownership, you are tapping into one of the most effective ways of building long-term wealth.

“Owning a home is a keystone of wealth — both financial affluence and emotional security.” — Suze Orman

Leveraging Amortization

The way that mortgages are structured is that a larger portion of your payment goes towards interest at the beginning of the term, while more of your payment goes towards principal towards the end of the term. This process is called amortization. By taking advantage of amortization, you can make additional payments towards your principal. Doing so allows you to pay off your mortgage faster and significantly reduces the amount of interest you will pay over time. A great strategy is to pay one extra mortgage payment each year, which can reduce the term of your mortgage by up to seven years.

“It’s not how much money you make, but how much money you keep, how hard it works for you, and how many generations you keep it for.” -Robert Kiyosaki

Owning a home has so many more benefits than just a place to live. It’s a place to grow, find peace, and increase your personal wealth. And how do we do that again? Through appreciation and paying down the principal on your mortgage. Whether you are a first-time homebuyer or an experienced investor, homeownership is a fantastic way to build long-term financial stability, and it is an achievement to be proud of. I leave you with one final quote. For now!

“Paying down your mortgage is like investing in a high-yield bond that is guaranteed to appreciate over time.” -Dave Ramsey

This is not financial advice. For educational purposes only. Before making any financial decisions, consult with a professional.