Home Equity Debt Consolidation in a Crashing Housing Market

October 30, 2009 by · Leave a Comment
Filed under: Blog 

One of the most common ways to consolidate debt is to take out a home equity loan. The idea is that by leveraging the existing equity in your house, you’ll be able to lower your monthly payment on other types of loans and save money on the interest.

While borrowing against your house is one of the cheapest ways to borrow money, it is still a risky proposition.

Most people are use to the prices of houses increasing. Over the long term a house will appreciate in value, but over the short term that isn’t always the case. Lets look at a hypothetical example of how someone might use a home equity loan as a consolidation mechanism.

Lets assume you buy a house for $125,000. Over the years you pay the mortgage down to $75,000 and the house appreciates to $150,000. Many banks will let you take the $75,000 in equity and borrow against it. So lets assume you take out a $75,000 home equity loan and use it to pay off your two cars and your credit cards.

Everything seems great, you have a lower payment and the bank gives you a good interest rate because you are just borrowing against the equity in your house.

Now lets assume that your area has a problem where several large employers go out of business or have massive layoffs. Your company is one of the ones that disappears. You find a job half way across the country that pays a little less than your previous job and put your house up for sale.

Unfortunately everyone else is putting their house up for sale as well and your house is now only worth $100,000. This isn’t a big deal because you only owe $75,000 right? Wrong, you also took out that $75,000 home equity loan. So if you are able to sell the house for $100,000 you will still owe $50,000. So basically you can’t sell your house until you can come up with $50,000. If you used the home equity loan to buy things that still have some value, you might be able to sell those things (cars, etc.) to help you get out of what you owe on your home, but chances are you consolidated debt that included consumer living expenses.

Debt consolidation using home equity is still a viable option and for many it is the cheapest easiest way to get rid of high interest loans. However, it is important to understand the risks involved and have a plan in place to handle a potential job loss that forces you to relocate.

Mark Shead
http://www.articlesbase.com/non-fiction-articles/home-equity-debt-consolidation-in-a-crashing-housing-market-143918.html

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