A home equity loan is secured by more than your home is worth sounds like an oxymoron, doesn’t it? Where’s the security? The term was coined by a very clever Wall Street type. Lending money to those with perfect credit while holding their home as security had some risk, but that could be adjusted for in pricing. This is really a “secured signature loan“. Maybe this type loan could steal some business from the credit card industry or at worst augment it.

The Caveats

The “125% home equity loan or sometimes referred to as the “125% NO EQUITY loan“, allow the homeowner to borrow up to 25% more than his/her/their home is worth. There are lots of caveats and these change dramatically from state to state. A few are: maximum loan $125,000; no more than $50,000 cash; must use some of the loan to improve your home. Although these are 2nd mortgages they can be used as a 1st.

Some Benefits

Several of the less obvious benefits are that the interest portion may, I repeat may, be tax decutible. You are going to have to check with your tax advisors for this one, but the concerns arises when the equity borrowed exceeds the purchase price. The rate of interest on this home equity loan is normally lower than the long term rate on most credit cards.

Some Problems

One major problem occurs when you need to or have to sell your home. Unless the value of your home has risen significantly (25% minimum) you may have to actually pay to a buyer to purchase your home. Another question to ponder before tackling one of these mortgages is what happens if you lose your home through foreclosure. The IRS calls it debt relief. Another tax advisor question worth asking.

Why would a loan so popular as the 125% home equity loan disappear or at least become hard to find? Simple, the firms that package and purchase these loans lost their buyers. Just like all mortgage debt, these loans are put together in blocks and then sold to insurance companies, pension plans and you and I as parts of mutual funds or bond funds. When there is a larger than expected default rate, one of two things happen. The package buyers change their pricing or if there’s major problems they drop their purchases all together. Heads roll on Wall Street and portfolio managers shy away from losses. Especially of securities with little history like these NO EQUITY loans.

Well the good news. The 125% home equity loan have been re-designed, re-priced and re-instituted. “Back by popular demand”, is what actually happened. When there is such a voracious market for a product someone will take the chance. There’s a lot of money to be made, Wall Street will find a way.

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