Defaulting on Home Equity Loans and HELOCs

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Defaulting on Home Equity Loans and HELOCs

House equity loans and lines of credit (HELOCs) are accessible methods to draw on the value of your home to finance home upgrades, school costs, and the repayment of credit card debt or other debts with higher interest rates.

Since your property serves as security for these financial instruments, they often offer lower interest rates than unsecured loans. But what happens if you discover that you are unable to make payments on your HELOC or home equity loan?

The interest paid on these loans used to be deductible from taxes. According to the Internal Revenue Service, the interest on these loans under the Tax Cuts and Jobs Act (TCJA) is only deductible if they “are used to purchase, develop, or significantly enhance the taxpayer’s house that secures the loan” (IRS).

Key Takeaways

  • The two main forms of debt used to access the equity in your house are home equity loans and home equity lines of credit (HELOCs).
  • If you don’t make either payment, you risk foreclosure, but the lender’s exact course of action will mainly rely on how much equity you have in your property.
  • Your lender is more likely to opt to foreclose if there is greater equity.
  • However, if you have an underwater mortgage, the lender may decide to sue you directly to collect the debt.
  • If you’re having trouble making payments, many lenders can work with you to modify the loan, but it’s crucial to get in touch with them right away.

Home Equity Loans vs. HELOCs

To convert the equity in your house into usable cash, there are two different kinds of loan securities. The first is a home equity loan, sometimes referred to as a second mortgage, which is borrowing a certain sum of money for a specific length of time (typically five to 15 years) at a specific interest rate with a specific payment.

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The second option is a home equity line of credit (HELOC), which operates more like a credit card with an expiry date and has a variable interest rate (often up to 10 years after the line of credit is taken out).If you have significant financial difficulties, lose your job, or get an unanticipated illness, you may suffer issues with any sort of debt.

A HELOC’s contrast between its initial phase (the “draw” period), during which you can access the line of credit and may only be required to pay interest on the money you borrow, and its second (and significantly more expensive) “repayment” phase, during which the line of credit expires and you must start making payments on your outstanding balances, both principal and interest, is another issue.

Lenders Won’t Automatically Foreclose

Foreclosure and default are possible outcomes of defaulting on a home equity loan or HELOC. The worth of your house and the amount of debt you still owe will determine what the home equity lender really performs. Your lender will likely start the foreclosure process if you still have enough equity in your property since it has a good chance of getting part of its money back after the initial mortgage is repaid. Your lender is more likely to opt to foreclose if there is greater equity.

Your home equity lender could be less inclined to foreclose if you are underwater, that is, if the value of your property is lower than the amount you owe. Due to the precedence of the first mortgage, it is probable that the holder of a home equity loan or HELOC won’t get any money after a foreclosure.

Instead, the lender can decide to go after you personally to collect the debt. Even while legal action may not sound as frightening as a foreclosure, it may still damage your credit, and creditors have the right to levy your bank accounts, garnish wages, and attempt to seize other property in order to collect what is due.

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Don’t Wait to Act

Most mortgage lenders and banks will often work with you if you are having trouble making payments since they don’t want you to fail on your home equity loan or HELOC. It’s crucial to get in touch with your lender very once if that occurs. Attempting to avoid the issue is the last thing you should do. If you’ve disregarded the calls and letters they’ve sent you offering assistance, lenders may not be as keen to engage with you.

There are a few alternatives available to the lender in terms of what they may do. A loan or credit line modification is something some lenders provide. This may include changing the terms, such as the interest rate, the frequency of payments, the period of the loan, or a mix of the three. For instance, Bank of America provides HELOC adjustments to borrowers who:

  • possess the loan for a minimum of nine months.
  • received no home equity help in the last year or twice in the previous five years.
  • are experiencing financial difficulties
  • have repaid your loan in full for at least six installments thus far.
  • Each borrower on your loan consents to take part

Other private lenders, like Sallie Mae, a provider of student loans, assist borrowers who are having trouble making their payments by providing a variety of forbearance and deferral alternatives. Banks may provide payment extensions or repayment programs to make up on past-due payments for borrowers who don’t qualify.

Limited Government Help

The federal government’s assistance may be insufficient. At the end of 2016, the Home Affordable Modification Program (HAMP) of the Obama administration, which let qualified homeowners to lower monthly payments, including those for home equity loans and HELOCs, was no longer accepting new applications.

However, the Making Home Affordable mortgage aid alternatives website still provides details and suggestions on contacting your lender if your issue is either short-term or persistent.

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Is a Home Equity Loan the Same As a HELOC?

While both alternatives allow for borrowing against the equity of a property, the two programs have significant differences. A home equity loan functions much like a second mortgage and has a set interest rate for the duration of the loan. Instead, HELOCs are a kind of revolving credit line with changeable minimum payment amounts and adjustable interest rates.

Can I Lose My Home If I Don’t Pay My HELOC?

Your lender may foreclose on your house and you can wind up losing it to the bank if you don’t pay back your HELOC. Additionally, your credit score will suffer, increasing the cost or difficulty of future borrowing.

Do I Need to Pay for a HELOC If I Don’t Use It?

To create a HELOC, the majority of lenders will impose some type of origination costs, albeit they are often far lower than with a mortgage. You may use and recoup any funds permitted under the line of credit during the draw period. You cannot draw more money during the payback period, and you must pay off any outstanding sums.

The Bottom Line

You may access the equity in your house via home equity loans and HELOCs. There are solutions available to you if you find yourself in difficulties, such as lender workouts and limited government assistance. The key to all of the solutions is to get assistance immediately soon rather than waiting for the issue to go away on its own.

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