Ask Our Broker With Peter G. Miller: Money Shortage
Question: We have run into financial problems because of a job loss and worry that we will lose our house. However, because home values have been rising we now have a lot of equity. Can we get a second mortgage or home equity line of credit to keep our heads above water?
Answer: Let's imagine that your home has a $400,000 fair market value and a $250,000 first loan. If a lender will offer 90 percent loan-to-value (LTV) financing, you will be able to borrow $110,000 ($400,000 x 90% = $360,000. $360,000 less $250,000 equals $110,000).
However, many lenders will not go higher than 75 percent or 85 percent, substantially reducing the size of a potential second loan or home equity line of credit (HELOC).
Regardless of the LTV percentage a lender will allow, the bigger problem is you will have to qualify for financing. Under the ability-to-repay (ATR) rule, lenders are required to verify the borrower's financial standing, however according to the Consumer Financial Protection Bureau, several types of real estate loans are excluded from the rule. These exceptions include:
• Open-end credit plans (home equity lines of credit, or HELOCs)
• Time-share plans
• Reverse mortgages
• Temporary or bridge loans with terms of 12 months or less (with possible renewal)
So, interestingly, while a second loan is governed by the ATR rule, a HELOC is not. A lender can originate a HELOC to someone with strong equity but weak repayment prospects. While a lender may be allowed to originate HELOCs for borrowers with weak credit, many will not touch such loans. The reason is that lenders are risk-adverse and the last thing they want to deal with is a marginal borrower and the possibility of foreclosure. You can expect lenders to require a fully-documented loan application and with a lack of income to decline the mortgage.
Outside the traditional forms of real estate lending, it's possible to get asset-based real estate financing, what's known as a “hard money” mortgage. With such loans, qualifying is based on the equity available from the property. Such financing typically requires a lot of free equity as well as high interest costs, meaning high costs and a lot of borrower risk.
In your situation, the best alternative is to find a replacement source of income. If that's not possible, then consider the sale of the property. This might seem like a harsh option but it may allow you to harvest your equity, not face foreclosure, and begin again with cash in hand, perhaps in a different market that offers better income opportunities and lower real estate costs.
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Peter G. Miller Peter G. Miller is author of "The Common-Sense Mortgage," (Kindle 2016). Have a question? Please write to peter@ctwfeatures.com.