'Over-Equity' Loans Oversold to Consumers
BOSTON — When Lisa Guidice, a New York lawyer, wanted to buy a house, she had trouble getting a mortgage because of high debts and little cash to put down.
"Everybody wants to lend you money if you have income, good credit, and half a brain. But if you're like normal people, it's much harder," Ms. Guidice says.
In desperation, Guidice, like many Americans today, turned to a so-called "sub-prime" lender, who makes higher risk loans at higher interest rates.
In her case, she and her husband bought a $100,000 house in March with a $105,000 loan. Now they're borrowing another $25,000 for renovations.
They're the latest in a wave of homeowners taking out so-called over-equity mortgages - loans worth more than the house itself, which means the borrowers don't have to come up with a cash downpayment to go with the loan.
Between 1996 and 1997, the no-equity lending business grew from $3.5 billion to $10 billion and is expected to reach $20 billion in 1998.
While the loans can be used to buy a home, they are mostly promoted as a method of refinancing to consolidate credit-card debt, pay for home improvements, or make other purchases.
But most financial experts are skeptical. "Even if you have a lot of credit-card debt, I can't believe [an over-equity home loan] is your best option," says Eric Tyson, author of "Personal Finance for Dummies."
That's because an over-equity home loan, unlike credit cards, uses your house as collateral. If you can't make the payments, you could lose your house.
The credit-card option
To qualify for an over-equity mortgage, you need excellent credit, says Fred Feutz, a mortgage Banker at East West Mortgage in McLean, Va.
But with that kind of credit, borrowers shouldn't have trouble qualifying for low-interest credit cards to bring down payments on high-interest credit-card debt, says Mr. Tyson.
Most over-equity mortgages carry an adjustable-interest rate between 12 and 14 percent. But good-risk borrowers can get credit cards that charge only 8 percent interest, he says.
"I'd much rather run up credit-card debt; at least I'm not risking my house," says financial planner Jonathan Pond, of Watertown, Mass.
The fact is, people interested in such loans are vulnerable - perhaps they have heavy debt and no savings - and many won't qualify for the loan, he says.
The largest advertiser of over-equity mortgages, The Money Store, in Sacramento, Calif., refused comment on any aspect of the loans.
Other mortgage lenders insist that a small but steady number of well-to-do homeowners with large debts can benefit from these products.
That could describe the Guidices. They borrowed the full value of the house plus four points to buy the interest rate down to 7 percent - the best deal they found. "It's a good program," Ms. Guidice says.
But if the Guidices needed to sell their house now, they would owe more than they could get in the sale. And they may not have the extra cash to pay the difference. They don't expect to recoup the money spent on closing costs.
Tax breaks not guaranteed
Lenders often advertise that interest payments on home mortgages are tax deductible, unlike credit-card interest.
But these ads gloss over the fact that you can deduct loan interest only up to the value of the house.
In addition, if you reduce the equity in your house below 20 percent, you will owe private mortgage insurance. It's an addition to your monthly mortgage payment that you don't recoup later as home equity.
"The purpose of owning your own home is to get control of your housing costs and to be mortgage free by the time you retire," says Mr. Pond. "Using your house to get more money contravenes both reasons."
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Saving Your House
To protect yourself against unscrupulous lenders offering second mortgages or home refinancing:
* Agree to a home equity loan if you don't have enough income to make the monthly payments.
* Sign any document you haven't read or any document that has blank spaces to be filled in after you sign.
* Let anyone pressure you into signing any document.
* Agree to a loan that includes credit insurance or extra products you don't want.
* Let the promise of extra cash or lower monthly payments get in the way of your good judgment. Is the cost you will pay for the loan really worth it?
* Deed your property to anyone. First consult an attorney, a knowledgeable family member, or someone else you trust.
* Ask specifically if credit insurance is required as a condition of the loan. Sometimes credit insurance is included without your knowledge. If you don't want it, make sure the charge is removed from the loan documents. If you want the added security of credit insurance, shop around for the best rates.
* Keep careful records of what you've paid, including billing statements and canceled checks. Challenge any charge you think is inaccurate.
* Check contractors' references when it is time to have work done on your home. Get more than one estimate.
* Read all items carefully. If you need an explanation of any terms or conditions, talk to someone you trust, such as a knowledgeable family member or an attorney.
* Consider all the costs of financing before you agree to a loan.
Source: Federal Trade Commission