During the few but frenzied years leading up to the Millennium Boom, home equity lines of credit (HELOCs) became ubiquitous. It seemed most real estate brokers and agents with an equity in their home had a line of credit. Homeowners and lenders were hypnotized by the belief that property prices would rise into perpetuity, making wealth gains in real estate permanent.

HELOCs converted a home into an ATM to unlock wealth. The funds disgorged were used to pay for all kinds of consumer spending, such as renovations, vacations, vehicles, education, more real estate, and even negative cash flows. Inevitably, property values and financial markets plummeted. In response, lenders have tightened their lines of credit by either radically cutting equity lines or closing them altogether.

Lenders are now motivated to terminate their HELOC positions for two reasons:

  • a homeowner’s troubled financial status, possibly brought on by the high unemployment level, makes them a higher risk for default; and
  • the value of a home securing the HELOC has decreased to the extent that the homeowner’s equity is dramatically smaller or nonexistent,  a problem felt most poignantly in California.

After the late 2005 pricing crest in the real estate boom, $116 billion of home equity loans were borrowed nationally, a substantial decrease from the $350 billion borrowed just one year before. The Golden State consists of around 25% of this national pool of borrowing.

first tuesday take: It is important to remember a home is family shelter in any country, not an investment. It is deeply personal, the hearth, and is not the spandex piggybank it was made out to be during the Millennium Housing Boom of 2002-2005. As property values continue their downward drift, probably well into 2011, a homeowner’s equity necessarily tumbles in exact synchronicity with the property’s value, absorbing all the loss in the property’s value.

In more pronounced instances throughout California, a homeowner’s equity inverts and flips upside down, called negative equity. A homeowner in a negative-equity position must make the tortuous decision whether to fecklessly keep paying on a dead-end loan, or do the actual math and, as a rational no-liability strategy, default and force the lender to buy the home in exchange for the loan. There are many ways to get rid of property you don’t want, and one is a trustee’s sale.

Re: “Homeowners outraged over cancellation of their home equity lines” from the San Jose Mercury News.