Property Crossroads - Real Estate Info

Home equity loans: Use with caution

by Dan on October 14th, 2007

We’ve all heard the commercials on the radio or seen them on TV: Some company you’ve never heard of promises to help you pay off your credit card debt by tapping into the equity of your home. Often they start with a distressed consumer lying awake at night, fretting over mounds of unpaid bills.

And one thing these commercials almost always include: a reassurance or two that this credit card debt isn’t your fault.

I hate to say it, but that high credit card debt often is your fault. There are exceptions – job loss, serious illness – but much credit card debt results from poor financial decisions and laziness. (It’s easier to charge a meal at a restaurant than it is to cook that chicken thawing in your fridge.) You can blame the credit card companies for our nation’s consumer credit debt if you want, but then you have to let me blame the pizza restaurant down the street for my expanding waistline.

If you have made the mistakes that result in high credit card debt, don’t make things worse. A home equity loan, which gives homeowners a lump sum of cash based on the equity in their homes, is a good solution for certain people, namely those who can be counted on to pay back the loan in a timely fashion. But for many others, a home equity loan – even if homeowners are using their newfound cash to pay off credit card debt — is just another problem waiting to happen.

Taking out a home equity loan to pay off those escalating credit card bills seems like a good idea. The interest rates on a home equity loan are far lower than are those that come with credit cards. But when you’re taking out a home equity loan, you’re borrowing against your house. If your financial situation worsens and you can’t pay this loan back, you could lose your house.

And that’s the problem. Too many people, after borrowing against their home’s equity, continue the spending problems that got them their high credit card debt in the first place. According to the American Bankers Association, 1.99 percent of home equity loans were delinquent in the second quarter of 2007. That’s actually an improvement – that figure stood at 2.15 percent during the first quarter – from earlier figures, but troubling nonetheless. (The same study showed that delinquency rates on home equity lines of credit increased during the second quarter. But that’s a blog post for a different day.)

I know credit card debit is a serious worry for many U.S. residents. A recent study estimated that the average U.S. household has more than $9,300 in credit card debt. Though some dispute this number, there’s little debate that credit-card debt is weighing heavily on many in this country.

Home equity loans make perfect sense for some. But for others, they can turn into one more financial mistake. The key to solving credit woes shouldn’t lie in a quick-fix loan. Eliminating your credit card debt is like dieting: You have to change your habits over the long haul or you’ll just fall back into the same problem. And until you’ve changed your habits, taking out a home equity loan is too risky.

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