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A Warning to those with Home Equity Lines of Credit

A new warning to anyone who has mortgaged property with a Home Equity Line of Credit.

Borrowers with Home Equity Lines of Credit (HELOC) loan on their property pay interest to their lender based on the average daily loan balance outstanding at an interest rate that varies from month to month, typically tied in some fashion to prime lending rates. Typically, all that is required in the way of minimum payment is the interest only. As interest rates rise, so do the monthly interest payments. We are all sensitive to the effects of interest rate changes on our monthly payments as we get billing statements every month and can see the changes every four weeks.

With property values declining in many locations nationwide (including some parts of Chicagland), a stealthier, and perhaps scarier problem is looming:

STANDARD HELOC loan agreements allow lenders to DECREASE the lines of credit available to homeowners if the value of the property declines. Borrowers do not get a say in the lender's decisions. This appears to be a unilateral right.

The risk here is pretty obvious:

Home buyers who financed a part of their orignial home equity line of credit (HELOC) loan, "piggy-backing" on top of a first (conventional) mortgage or who have used HELOCs for home improvements or other non-housing expenditures may receive "margin calls" from the bank demanding repayment of any principal in excess of the diminished line of credit, or face a risk of mortgage default. Its a pretty safe bet that most of those who could be effected are using HELOCs precisely because they did not have other readily available cash on hand to cover those expenses they borrowed money to pay.

For others who maintain zero balance lines of credit as an emergency / rainy day fund, the safety they have relied on may also be decreasing.

Fortunately for most of us in the Chicago area, home values have not dropped sharply, so for now, this is merely a precautionary alert. Keep your eye on the neighborhood property values and stay alert to changes. The house you save may be your own.

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