Appraised Equity Capital

You bought your home for $500,000 10 years ago in a hot market area. You had a loan on it at the time for $350,000 after putting $150,000 down. In the last decade, you paid down $100,000 of that loan so that your remaining principal is $250,000.

From the bank's "book value" perspective, the loan-to-value ratio is now 50 percent. But the MARKET value of the home today is a million bucks. So that loan-to-value ratio is actually falsely conservative or overly conservative. It's really 25 percent...meaning that the bank's portfolio is safer than it might seem. That's where appraised equity capital comes into play.

By having the home's value appraised for the actual equity in it, the bank gets a different perspective (a much more real market-based one) on its level of risk in its loan portfolio. And this element matters to home owners as well who have Private Mortgage Insurance or PMI...usually required when the loan-to-value ratio is less than 20 or 25 percent. Should the home's equity go up a lot, that LTV gets more friendly and at some point, the home owner can then stop paying the non-tax-deductible PMI fees and save a few more bucks.

The notion of appraised equity capital isn't limited to homes or home loans...it applies to normal corporate bean counting...but you'll hear it most at home mortgage cocktail parties. And then you have to ask yourself, "Why am I here?" But that's a different glossary term.