August 19th, 2013 6:33 PM by Landa Pennington
Leverage is the ability to control a larger asset with a smaller amount of cash through the use of borrowed funds. It has been described as using other people’s money to increase your yield and it applies to homeowners and investors alike. Positive leverage causes the yield to increase as the loan-to-value increases.
Even a modest amount of appreciation combined with the amortization of a loan can cause a substantial rate of return on the down payment and closing costs.
Homes build equity as the price goes up due to appreciation and the unpaid balance goes down due to amortization.
The example above indicates the yield on a home considering 3% acquisition costs on the home with a 4.5% mortgage rate and the resulting equity at the end of five years. The different down payments will affect the yield based on the leverage effect.
Whether you rent or buy the home you live in, you pay for what you occupy. The question a person is faced with is whether they are going to buy it for themselves or their landlord. Take a look at the cost of Renting vs. Owning.