HELOCs are making a comeback. Banks are offering those willing to become loanowners free money at very low rates, so borrowers are taking the money. Last time around, this was an open invitation to theft as borrowers extracted over a trillion dollars in mortgage equity withdrawal which they didn’t pay back. For now, banks are being more conservative in their lending, but since lenders will become more aggressive as they become more confident in rising house prices, there is a risk that rampant HELOC abuse may return. If it does, it could easily reignite the same desires that inflated the housing bubble leading to a painful crash and more taxpayer bailouts. Everyone who doesn’t want to subsidize their neighbors reckless spending should be wary of a return to a HELOC dependent economy and lifestyle.
By: Diana Olick — CNBC Real Estate Reporter
Nearly 11 million borrowers are underwater on their mortgages, owing more than their homes are worth, according to CoreLogic, and yet home equity lines of credit are suddenly on the rise again.
During the housing boom of the last decade Americans withdrew over $1 trillion in home equity. They did it through cash-out refinances, home equity loans, and home equity lines of credit. The latter allowed them to use their homes like an ATM. They spent the money on cars, televisions, vacations and fancy home upgrades. It was seemingly endless equity, until suddenly that equity was gone.
Did you realize it was a trillion dollars? We all knew it was bad, but a trillion dollars? No wonder the economy is sputtering right now.
It was easy to recognize the HELOC abusers back in 2005 and 2006. If you drove down a residential street, you can tell by the quality of the houses and the cars in the driveway the general level of income in a neighborhood. Oftentimes you could drive by a house and see two new luxury cars in the driveway even in less affluent neighborhoods. This was a classic sign of HELOC abuse. Most people would park their luxury cars in the garage, but if the garage is full of useless crap bought with HELOC money, the owners would be forced to park their fancy cars outside. Some may not have had garages full of HELOC booty. Some probably parked these outside to show off to the neighbors. Losers with a capital “L.”
“Home prices are definitely a factor” in the recent rise home equity lines of credit, said Brad Blackwell, an executive with Wells Fargo Home Mortgage. “As they increase, people have more available equity.”
(Read More: New Housing Fears: Home Prices Are Rising Too.)
As I noted, One man’s mortgage debt is an entire neighborhood’s equity. Super low interest rates allow borrowers to bid more, and limited inventory forces them to if they want to acquire a property.
Blackwell also pointed to increased consumer confidence, meaning borrowers now feel better about their ability to repay these loans.
Both factors fueled a 19 percent jump in originations of home equity lines of credit at the end of last year, according to Equifax. In 2008, as housing was crashing, home equity line originations dropped 55 percent.
“Nationally we’ve seen a 31 percent increase in HELOC’s year-over-year,” said a spokesperson from JPMorgan Chase.
Ponzi theft is on the rise.
With home prices up 8 percent year-over-year in December, according to the latest reading from CoreLogic, homeowners are regaining home equity at a fast clip—1.4 million borrowers rose above water on their mortgages through the end of September. That number likely increased as price appreciation accelerated toward the end of the year.
Does this mean a return to the reckless equity withdrawals of the housing bubble? Likely not.
“I would guess that most of the current home equity line borrowing is quite prudent. We know that it is being very conservatively underwritten with plenty of equity,” said Guy Cecala, editor of Inside Mortgage Finance.
I would guess? I would guess the Ponzis are rejoicing their new-found income.
(Read More: Housing Already Shows Signs of a New Bubble.)
While it is too early to say exactly what borrowers are spending this new cash on, anecdotal evidence shows borrowers are largely sinking the money back into their homes.
“We are seeing more responsible uses today, like home improvements, education expenses or other major expenses that would be a more responsible use of a customer’s home equity,” Blackwell said.
The average home equity line in October of 2012 was just below $90,000 compared to October 2006, when lines averaged just over $100,000, according to Equifax.
Despite the recent surge, volume is still down dramatically from the height of the housing boom. Borrowers in 2012 took out a collective $7.2 billion in home equity lines through last October, compared to just over $28 billion in 2006.
(Read More: Why Home Builders Won’t Drop New Home Prices,)
The numbers are expected to go up in 2013, not just because home prices are rising, but because interest rates are rising. With higher rates, borrowers will not want to give up their rock-bottom fixed rates to do cash-out refinances; rather, they will turn to home equity lines instead. While these lines usually carry variable rates, banks are now offering new products with fixed rates. Wells Fargo recently promoted a line of credit where a portion of the loan is fixed for up to three years.
“We clearly want to lend, and we want to lend to the types of needs that our customers have,” Blackwell added.
Banks want to enslave borrowers any way they can.
Will HELOC abuse come back in full force?
I don’t think we will see the same level of theft we witnessed last time around. During the housing bubble, lenders offered borrowers the ability to refinance at lower interest rates. This allowed borrowers to extract their equity often without increasing their monthly payments. From a borrower’s perspective, this really was free money. Since we are at the bottom of the interest rate cycle, borrowers won’t get lower interest rates to refinance and keep the same monthly payment. That means HELOC booty will have a cost this time around. If the borrowed money has a real cost, far fewer people will take it, and those that do won’t be able to extract near as much because they will face qualification barriers. Gone are the days when you could make up an income number to justify the loan. That should curtail Ponzi borrowing which is the behavior that inevitably leads to a crash.
We will almost certainly see a continuation of debt consolidation loans on HELOCs. It makes sense financially to consolidate high-interest credit card debt on a low-interest HELOC; however, it is foolish to run up the credit card debt in the first place. Financing short-term consumption with long-term debt is never a good idea. Debt consolidation is a one-time fix for those who see the light and stop using their credit cards. It’s a terrible way to routinely plan finances.
I think most HELOC money in the future will go toward debt consolidation and home improvements, a tolerable though foolish use of consumer debt. Although I think all consumer debt is bad, the debt industry will continue to tout its benefits while they enslave another generation.
Over $500,000 in HELOC abuse
Today’s featured property is a short sale because the owner spent over $500,000 in mortgage equity withdrawal. Like many Ponzis of the housing bubble, he lived well beyond his means, and now he needs to get out from under his onerous debts.
- The house was purchased for $531,500 on 10/24/2002. The owner used a $424,950 first mortgage and a $106,550 down payment.
- On 1/21/2004 he refinanced with a $530,000 first mortgage and withdrew his down payment.
- On 9/27/2004 he obtained a $169,000 HELOC.
- On 9/12/2005 he refinanced with a $817,000 Option ARM with a 1% teaser rate.
- On 10/31/2006 he refinanced with a $865,000 first mortgage.
- On 3/9/2007 he opened a $105,000 HELOC.
- Assuming he maxed out the HELOC, the total property debt was $970,000, and the total mortgage equity withdrawal was $535,050.
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|Baths||2 full, 1 half|
|Home size||2,200 sq ft|
|Lot Size||4,827 sq ft|
|Days on Market||114;|
One Story Mediterranean ~~ 3 bedrooms, 2.5 bathrooms, with a 2 car attached garage on a 4,826 sq ft lot. Property features open kitchen with SolidGranite Countertops, Stainless Steel Appliances, and Counter top Seating. Open Family room with hardwood flooring, gas fire place, built-ins, andcustom blinds. Property has been beatifully landscaped in front and back yard. Property is located near multiple shopping and eatingopportunities.
Property Type(s): Single Family, Residential
|Last Updated||1/31/2013||Tract||Rutherford (ruth) (Rutherford (RUTH))|
Listing information deemed reliable but not guaranteed. Read full disclaimer.
Proprietary OC Housing News home purchase analysis
$830,000 …….. Asking Price
$531,500 ………. Purchase Price
10/24/2002 ………. Purchase Date
$298,500 ………. Gross Gain (Loss)
($66,400) ………… Commissions and Costs at 8%
$232,100 ………. Net Gain (Loss)
56.2% ………. Gross Percent Change
43.7% ………. Net Percent Change
4.3% ………… Annual Appreciation
Cost of Home Ownership
$830,000 …….. Asking Price
$166,000 ………… 20% Down Conventional
3.59% …………. Mortgage Interest Rate
30 ……………… Number of Years
$664,000 …….. Mortgage
$172,140 ………. Income Requirement
$3,015 ………… Monthly Mortgage Payment
$719 ………… Property Tax at 1.04%
$225 ………… Mello Roos & Special Taxes
$208 ………… Homeowners Insurance at 0.3%
$0 ………… Private Mortgage Insurance
$280 ………… Homeowners Association Fees
$4,447 ………. Monthly Cash Outlays
($676) ………. Tax Savings
($1,029) ………. Equity Hidden in Payment
$193 ………….. Lost Income to Down Payment
$124 ………….. Maintenance and Replacement Reserves
$3,058 ………. Monthly Cost of Ownership
Cash Acquisition Demands
$9,800 ………… Furnishing and Move In at 1% + $1,500
$9,800 ………… Closing Costs at 1% + $1,500
$6,640 ………… Interest Points
$166,000 ………… Down Payment
$192,240 ………. Total Cash Costs
$46,800 ………. Emergency Cash Reserves
$239,040 ………. Total Savings Needed