Homebuyers shopping for a house in the current market can only daydream about the rock-bottom mortgage rates that were available during the peak of the pandemic.
The latest Fannie Mae Home Purchase Sentiment Index reveals that merely 17% of the general public considers it a favorable time to purchase a house. This is likely due to the confluence of rising inflation, slightly decreasing yet still high home prices, and increased mortgage interest rates, which make buying a home appear relatively unaffordable. However, if acquiring a new home is not feasible, why not consider renovating your current one instead?
This abundance of equity, at least partially, appears to be the reasoning behind people using their home equity for financing, i.e., taking out a home equity loan (HEL) against their ownership share. TransUnion’s data shows a 47% rise in the inception of home equity loans and a 41% rise in their relative, home equity line of credit (HELOCs).
Thinking of dipping into your home’s equity? There are a few things you should know.
No. 1: Equity Is a Concept, Not a Savings Account
Equity, the difference between what you owe on your home’s mortgage and the amount you could sell the home for now, is just a number. It is a theory; it is not cash in a savings account. The only way you can benefit from the equity and still live in the home is to pledge the equity as collateral for a new loan. You are promising to give the cash to a lender if and when you sell. In the meantime, you agree to make mostly interest payments. And that plunges you into debt.No. 2: You'll Have a False Sense of Well-Being
Transferring debt to a HEL can bring a kind of false sense of relief. Writing out big checks to credit card companies from the loan proceeds to bring the balance right down to a big fat $0 feels righteous, like you are repaying debt—that you have achieved $0 balances on your unsecured debt. But that’s not exactly true. You are only moving your debt around.No. 3: It Can Be More Costly
That lower-interest HEL could easily end up costing more than the higher-interest credit card debt. Comparing credit card debt at 20.04% (the current average at this writing) to a HEL at 7.25% may not be as clear-cut as it appears.No. 4: Spending Your Next Down Payment
Statistics say you will live in your home about seven years. That means your equity is the down payment on your next home. If you start nibbling away at it to pay for a wedding, a fancy vacation or college tuition (common reasons for diving into HEL), you may be reducing or eliminating your relocation options.No. 5: You Could Find Yourself Upside Down
Borrowing against home equity could put you in a precarious position if the real estate bubble bursts again and home values start to drop. If your mortgage plus HEL exceeds the market value, you could find yourself stuck with a home you cannot afford but cannot sell, either.No. 6: You Could Lose It
People who use home equity loans tend to do it again and again and again. They get stuck in the notion that the equity is their money to do with as they please. They never figure out how to manage their income and learn the hard way that the penalty for falling behind on equity payments is foreclosure.When it comes to home equity, here’s the best advice: Watch it but keep your hands off. The difference between what you owe and what you own may be the only appreciating asset you will ever know. Guard it tenaciously. Do nothing to impede and everything to encourage its growth.
Years from now, when you make the final mortgage payment and your home is all yours, you'll be thankful you decided to think for yourself and turn your back on HEL.
