Originally created 06/26/04

Home loans cause worry



The expected surge of home equity loans this year has industry watchers cautioning people about the risks of using their homes - typically a person's most valuable asset - as collateral to borrow money.

The growing trend toward treating the home like a personal piggy bank to pay down debt or buy a car is iffy at best, they say.

"You got to have a lot of self-discipline, because it puts your home at risk. Many who need the money lack that discipline," said Frank Thomas, the senior vice president of commercial lending at Aiken-based Security Federal Bank.

"There are some smart reasons to do it, but also bad ones that could put people back in a bad situation."

Last month, an annual LendingTree survey of about 800 homeowners showed that home equity loans, also known as second mortgages, could double this year. The survey said 23.5 percent of those asked were planning on securing a home equity loan, compared with 11.7 percent the year before.

The popularity of the loan has grown recently as rising mortgage rates cut into a competing way of squeezing money out of a home - refinancing.

The "refi" phenomenon, trading in an old mortgage for a new one with a lower repayment rate, peaked last year as mortgage rates plumbed decade lows. When mortgage rates began to climb this year, many started shifting to home equity loans, which don't carry the fees and closing costs that "refis" do.

People have two options when tapping equity from their homes: borrowing a lump sum at a fixed rate, or taking out a line of credit, which works a lot like a credit card with a limit on borrowing and rates that can vary.

Financial planners and credit counselors say the best type of loan depends on the situation.

A lump sum loan, for instance, would make sense when consolidating debt on credit cards with high APRs or putting the money toward home improvements.

The line of credit loan helps when money needs to be disbursed over a period, such as paying a child's college tuition.

Interest payments on both are also tax deductible.

Still, many times the money goes toward what experts say are unwise consumer purchases such as a car or a vacation, putting the borrowers back in the same sad situation as before: in debt.

"People are purchasing depreciating items with an appreciating asset," said Nan Mead, spokeswoman for the National Endowment for Financial Education.

"Home prices go up; cars go down. It's not a good trade-off."

Bankrate.com analyst Greg McBride says even the smart decision to pay down debt comes with a price.

The move from "unsecured" credit card debt to a "secured" home equity loan means failure to meet repayments could lead to foreclosure.

A steeper pitfall when swapping out home equity for cash, he says, is how it may undercut seniors in their golden years.

"Most people don't retire with $300,000 to $400,000 in their 401(k)," Mr. McBride said. "But that is possible to do with monthly mortgage payments over the years. Borrowing from that asset just means there will be less when you may need it."

Reach Matthew Mogul at (706) 823-3352 or matthew.mogul@augustachronicle.com.