Home equity loans have long been a popular way to get access to funds for things like home renovations, financing a college education, and other major expenses. They are a useful resource, but as home values continue to climb, many homeowners are starting to look to them for more than the financial aid they are a resource.
It is estimated that 70 percent of home equity borrowers roll over their loans into other loans or credit cards, and a popular theory is that this increases their chances of paying off those credit cards or loans. This may be a good idea, but there is something else to consider, none of which have anything to do with whether or not the borrower will be able to pay off their home equity loan on time.
rolled over loans have a number of potentially dangerous features that put that future repayment prospect in jeopardy. They are known as variable rate loans, and they can get very expensive if the rates are adjusted too frequently. When borrowers have “reitated” their loans meaning that they have lived in the home, they are competing for the privilege of lower interest rates. When borrowers roll over their loans into other funds or credit cards, there is no safety net. Homeowners exchange one loan for another. If things go south, and the home value falls, there are no guarantees that the borrowers will not be competing for a lower interest rate in a falling market. If home values keep falling, and rates keep going down, the home could be worth less by the time the loan is paid off.
This could easily put the home owners finances in greater jeopardy than it already is. If the home values fall, and interest rates keep rising, the home may very well be worth less than when it was purchased. If that is the case, there is no home value protection because there is no equity in the home to pull against the loan.
If you plan on rolling money over from one home loan to a second, you must be aware of how you will be effected when rates change. If you have only one loan and one rate, have a strategy in place to protect the capital. If you have two loans and one rate, and only have one home to compare, make sure that everything is set up so that you have multiple options.
Money market accounts are a viable option. These accounts are Essentially savings accounts issued by a bank with a credit card that will charge you a fee to access the money in the account. Rates are usually higher than savings accounts, but you can write checks. However, when rates change, you lose the one rate and you must pay the higher rate to keep the other rates the same. In these economic times, all kinds of interest rates are being raised, and repayment rates are getting lower.
How do you protect yourself from home equity loans before the rates adjust?
The key to keeping one’s home is to avoid the temptation of having to roll over the loan. Loan modification is an option, but it is not necessarily a guarantee. If you have a savings account and one rate and you apply for a loan modification and get denied, you will have to start all over. If you haven’t already rolled over your loan, look at whether you have an investment property and what happens to your rates if you have to roll over!