U.S. consumers have no problem piling up debt, but they're petrified of a home equity line of credit.
A decade after the housing market crisis, the folks at mortgage loan processing firm Digital Risk finds that most homeowners say they are reluctant to take out home equity lines of credit (HELOCs). One in five are unfamiliar with HELOCs altogether, while 30% do not know how to apply for one. With the Federal Reserve raising the benchmark federal funds rate twice since December, that fear may not be such a bad thing.
The amount of outstanding home equity lines of credit dropped $14 billion in 2016 to $473 billion of all U.S. debt, according to the Federal Reserve Bank of New York. That's less than U.S. credit card debt ($779 billion), auto loan debt ($1.16 trillion), student loan debt ($1.31 trillion) and mortgage debt ($8.48 trillion). It was also the only large segment of U.S. debt to decrease year over year. Not surprisingly, its 2.1% delinquency rate is a fraction of the 7% of credit card bills paid late and 11.2% of student loans that have fallen behind.
Homeowners and homebuyers are still haunted by the memory of "underwater" homeowners during the recession being stuck with homes worth less than they owed in loans. With the U.S. housing crisis at its depths in 2012, according to RealtyTrac, more than 12.8 million U.S. homeowners (29%) were seriously underwater. By the end of last year, that number fell to 5.4 million (9.6% of all mortgaged properties), while the number of equity-rich homes (with at least 50% positive equity) has climbed to more than 13.9 million, or 24.6% of all mortgaged properties. The number of equity rich homeowners has increased by nearly 4.8 million over the past three years, a rate of about 1.6 million each year.
"Despite this upward trend over the past five years, the massive loss of home equity during the housing crisis forced many homeowners to stay in their homes longer before selling, effectively disrupting the historical domino effect of move-up buyers that feeds both demand for new homes and supply of inventory for first-time homebuyers," says Daren Blomquist, senior vice president at ATTOM Data Solutions, RealtyTrac's parent company. "Between 2000 and 2008, our data shows the average homeownership tenure nationwide was 4.26 years, but that average tenure has been trending steadily higher since 2009, reaching a new record high of 7.88 years for homeowners who sold in 2016."
Homeowners aren't in any rush to tap into that home equity again. According to the Digital Risk survey, just 22% say they would currently consider borrowing against equity for financial needs such as tuition, medical expenses or debt consolidation. Some 65% of respondents said they had never taken out a home loan, although 78% said they were familiar it. More than half have have over $100,000 in home equity. It's not that they don't know what a home equity line of credit is (only 21% never heard of it) or don't know how to open one (only 30% don't). Of the minority considering a HELOC, 58% would use it for home improvements, 48% would apply it to a health emergency and 32% would pay down other debt. Credit card consolidation (18%) and the purchase of a second home (15%) also factored into the decision.
"Homeowners are using debt for responsible reasons, like affordable improvements that increase the value of their homes," said Jeff Taylor, managing director of Digital Risk. "Remodeling is at an all-time high and it's much more efficient to fund that activity with a four percent HELOC than a credit card charging 17% interest."
But that doesn't mean more homeowners are lining up to take on debt. Rising Fed interest rates have 32% concerned about the ability to meet adjustable-rate HELOC payments. According to a TD Bank survey, only 4% of Baby Boomers are considering applying for a HELOC within the next 18 months. Even with retirement-aged homeowners seeing a 2.8% increase in home equity, totaling $170.7 billion, at the end of last year, they're aren't tempted to use that equity to pay for travel or medical bills.
"There is greater scrutiny of the lending market now and more attention on the part of the lenders to credit quality, which is another positive sign for the health of the overall mortgage market," says Taylor. "Rates are likely to rise this year - and the activity we are seeing is homeowners being judicious about how they use debt in the face of that reality."
Roughly 59 million American adults (one in four) are considering buying a home this year, according to a new report from Bankrate. Even though the National Association of Realtors and U.S. Census Bureau report the total amount of existing and new home sales in 2016 at around 6 million, total housing inventory ended 2016 at the lowest level since it began tracking the supply of houses in 1999. Older Millennials (ages 27-36) and Gen X-ers (37-52) are most likely purchase a new home this year, with 20% of both age groups interested in doing so.
"Among Millennials, there's a lot of pent-up demand for home buying," said Bankrate senior mortgage analyst Holden Lewis. "They have been stymied by stagnant wages, student loans and a lack of available starter homes."
A seller's market has been driving up existing he median existing-home prices for four and a half years and put the average U.S. home price in March at $237,800, up 6% from the same time last year. During that same span, housing inventory slipped 6.6% to 1.83 million. The current 3.8-month supply is well beneath the six-month supply typically deemed healthy. Rising mortgage rates aren't giving new homeowners a whole lot of cash to play around with after buying their dream home, either.
"Constrained inventory in many areas and climbing rents, home prices and mortgage rates means it's not getting any easier to be a first-time buyer," says Lawrence Yun, chief economist at the National Association of Realtors. "It'll take more entry-level supply, continued job gains and even stronger wage growth for first-timers to make up a greater share of the market."
They'll just have no interest in using that home equity for a while, much like every other homeowner in the U.S. According to a survey by TD Bank's Philadelphia Home Show Survey, 58% of of homeowners say they have not used a home equity line of credit (HELOC). Though 74% of respondents said that their property value increased or stayed the same over the last 12-18 months, 75% say they won't consider using a HELOC in the near future.
It's not that they don't have a need for it. Roughly 61% of homeowners would like to use a HELOC to renovate their existing home. However, just 31% think now is the right time to do so, with 72% worried about more rate hikes by the Federal Reserve.
"Although the rate increase may worry some HELOC borrowers, they should keep in mind that a rate increase of 0.25% is going to have a minimal effect on their monthly payment," says Mike Kinane, senior vice president of consumer lending products at TD Bank. "But, if a borrower is concerned with potential increases in rate, they should contact their lender to learn more about HELOC features, such as converting all, or a portion, of the balance to a fixed rate option."
Even if you don't end up touching home equity, it ends up being a valuable asset. According to the Center for Retirement Research at Boston College recently found that Americans over the age of 65 often have more cash in their homes than in 401(k)s, IRAs or other investments. The average U.S. homeowner age 65 through 74 has $125,000 in financial assets. By comparison, those same individuals have an average of $150,000 in home equity. That disparity grows to $115,000/$160,000 between the ages of 75 and 84.
The Center also points out that roughly 30% of all income for folks ages 65 through 74 goes into utilities, taxes and upkeep on their homes. Meanwhile, the growth of home values in recent years has only given retirees more equity to work with.
It just requires a lot of sacrifice to earn that equity. Over 80% of current homeowners say their mortgage payment is preventing them from saving more money. In fact, more than one in three mortgage holders report that their monthly payment has a "major impact" on their ability to save. That number jumps to over 50% for parents.
That's where a HELOC could come in handy, assuming you understand the intricacies of the loan. For the first ten years of a HELOC - known as the draw period - a borrower can borrow money and pay it back as they wish, with only a minimum, interest-only payment required. When those ten years are up, though, that line of credit shuts down and the outstanding balance requires payments to both the principal and interest, which can draw out to as many as 20 years.
Greg McBride, chief financial analyst for Bankrate, notes that a $30,000 balance at a rate of 3.25% would require a minimum payment of $81.25 during those first ten years. However, that same $30,000 balance on a 20-year repayment schedule of principle and interest more than doubles the monthly payment to $170.16.
"It is this conversion from interest-only payments to principal and interest payments that could pose problems for unsuspecting or ill-prepared borrowers," McBride says, "particularly at a time when household budgets are still very tight and income gains have been hard to come by."
According to TD Bank, over half (55%) of Baby Boomers have no plan for what to do when their loan's draw period ends, compared to just 6 % of Millennials.
Yet there are options for HELOC borrowers facing the end of their draw period. A quarter plan to refinance their HELOC into another loan, with 35% planning to use their equity as an emergency fund, 27% plowing it back into their homes through renovations and 26% planning to use it to travel.
"Although most borrowers choose to use their HELOCs for home renovations, they should remember that this money can be used for almost anything, including paying off student loans or buying a car," says Kinane. "There is also a misconception that a HELOC works like other loans, but it is truly a line of credit. The consumer is in control of when and how much money they want to draw, and they are only paying on the portion they are actually using, therefore having greater control over interest charges."
Editors' pick: Originally published May 5.