HELOC Freeze | California Current

Home Equity Lines of Credit have grown quite popular and are starting to become the norm for second mortgages nowadays. However, with home values still dropping in California, HELOCs have been consistently feeling the pressure. But a recent six-page letter from the Fed has now put lenders guilty of freezing HELOCs back in the hot seat.

Why the Cold Shoulder

Since HELOCs are issued as a line of credit instead of a typical loan, lenders reserve the ability to cut off this line and essentially freeze the loan. Due to a combination of bad loans and slipping home values, lenders such as WaMu and BofA have been freezing a sizeable amount of HELOCs lately. From a lenders perspective, this reduces the risk of such loans from defaulting because of dropping home values.

For those who pay their bills on time and are considered “credible borrowers”, this can be incredibly frustrating as it seems you were promised a loan and now it is being taken away. More importantly, this freeze can actually cause a serious financial hardship - home repairs, medical bills, and other needs are all put on hold as this source of cash is now taken away.

So what do we do? Well in California fashion, we complain- and now the Fed has responded.

The Warning to Lenders

Here is a quick highlight of the six-page letter issued by the Office of Thrift Supervision

Lenders can’t generalize the freeze of HELOCs for “broad geographic areas”
They must evaluate each loan individually, instead of making blanket assumptions
A freeze below the outstanding limit cannot result in a higher payment for the borrower
If the condition that resulted with a freeze is fixed, lenders can’t charge a fee to restore the credit line

What This Means for You

While it is OK to freeze a HELOC, lenders will now have to pay more attention when they do freeze a line of credit. Whether they will from now on is another story. But here are a few things you should keep in mind:

“An ounce of prevention is worth a pound of cure.” As lenders find ways to reduce their risk in existing HELOCs, you can expect standards and guidelines to make it tougher to obtain new HELOCs.
Lenders aren’t just doing this for themselves. In a way, some of these freezes are truly warranted. With a loan based on values during the “bubble years”, it is easy for a homeowner to dig themselves into negative equity territory.
A HELOC is a line of credit and should be considered “potential” money. If you don’t want to deal with the risk of losing this credit line, explore the options of a traditional second mortgage.
Lastly, but most important - in this economy, think conservatively. A frozen line of credit can be tough, but an upside down mortgage can be devastating.

What do you have to say? Leave a comment, I’d like to hear what you’re thinking and others might too.