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San Carlos Real Estate September 14, 2009

San Carlos Home Equity: Use It or Lose It…

by Chuck Gillooley

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For many years, the home equity line of credit (HELOC) loan has become synonymous with home ownership. And why not? With home prices on a continual rise in desirable cities like San Carlos, home values and their respective equity grew seemingly overnight. The banks made it insanely easy to get at HELOC, too. No points, no application or appraisal fees.  Just a few forms to fill out, and your checkbook magically arrived in the mail a few weeks later.

It was easy money for the banks, too.  With the job market booming, mortgage default was almost unheard of.  And if it did happen, the home could be sold in the red-hot market at a high enough price to easily cover both the primary mortgage and the HELOC, which takes a secondary position in line behind the first mortgage (this is important.)    HELOC rates were typically a couple of points higher than the first mortgage, so the banks reaped huge returns on these loans.

Freeze Out.

When the bottom fell out of the market a couple of years ago, the paper equity of homes vanished into thin air.  As job losses drove the mortgage default rates to record highs, HELOC lenders suddenly found themselves in a very risky position — their secondary position behind the primary mortgage holder meant that there was often nothing left over after the primary lender foreclosed on a home.   Instant equity became instant loss.

This prompted the HELOC lenders to take the unprecedented step of freezing HELOC’s almost indiscriminately.     Indeed, as I documented in the post “Home Equity Freeze-Out” many San Carlos home owners got a surprise letter in the mail in October of ’08 stating that their HELOC’s had been frozen or severely curtailed.   For those who were borrowing against that line, their credit limit was immediately capped.  If the were just keeping it for a “rainy day” fund and hadn’t used any yet, the lines were often revoked entirely — regardless of how much equity the owner had in the home.

Striking back..

This article in the San Jose Mercury News certainly caught my attention: Homeowners outraged over cancellation of their home equity lines.  Apparently, some homeowners are striking back at the lenders by filing lawsuits to restore their lines of credit.    I’ll be first to tell you that I’m not a lawyer, but I have to believe that somewhere in that stack of paperwork we signed (but probably never read) there’s a clause that allows the bank to cap or revoke the line of credit in the event of a falling market.

The homeowners have a point in some cases — in the justification for revoking the credit line, they bank often assigns an absurdly low value to the home in question.   I’ve seen San Carlos valuations as low as $300/square foot in some of these letters.   I bet home buyers today wish that figure was true!

Use it or Lose it…

What are your thoughts on this lawsuit?  Do homeowners have a right to sue the lenders in this situation, or is it a sour case of entitlement?

One thing is indeed clear…If you have HELOC with an available balance, that balance is probably in jeopardy.  If you haven’t already done so, it might make sense to talk with your CPA or tax attorney to see what your options are.  Because it’s clearly a case of “use it or lose it’ for many.

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Comments 3
  • First of all, I’d like to say that your postings are invaluable.

    In regards to HELOC, we (bankers) have learned our lesson. Loose underwriting standards and profit/greed motive are to blame. Judging from a portion of San Carlos residents, it appears that the limits were set way too high. We’re seeing quite a few who not only used $600K-$800k to remodel/teardown extensively , but also to buy expensive vehicles and also put a down payment on a Tahoe cabin. These same people are now begging for relief.
    Notwithstanding past reckless bank behavior, HELOC’s are a privilege and not a right.

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  • Chuck:

    I agree with your assessment that the loan documents prepared by the lender give the lender wide lattitude to protect their interests.

    In many cases, I would day the lenders are justified in reducing or eliminating the home equity lines.

    If someone recently bought a house with 10% or 20% down and secured a HELOC at purchase or shortly after close for 20% of the purchase prince, considering market values may have dropped 10% to 20%, there is little or no equity to secure HELOC so lender cancels or reduces the amount.

    I would say the concept is a fair and just one but if the lender use ridiculous values to reduce HELOC that is not right.

    Be interesting to see results of lawsuits if any.

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  • The computer valuation models that banks use to estimate home values have no nuances in them for local markets. San Carlos did not fair as poorly as other parts of the state in the housing downturn, yet our HELOC was pulled when their valuation model determined that our value dropped 20% from an appraisal done in 2006.

    We had to pay $500 to get an appraiser back out to re-appraise and prove to them our home was worth more. They ended up fully reinstating our line (which we used for a house remodel, not new cars or boats), but it angers me that we were the ones that had to pay $500 to keep a HELOC that was already established.

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