Trouble with HELOCS

Wachovia has become the latest bank to curtail home equity loans (HELOCS).  It has begun sending out letters to homeowners who have not tapped out their secured lines of credit informing them that their accounts are now frozen or closed.  The Charlotte-based thrift has joined the trend of big banks putting breaks on their home equity portfolios.

Home equity line borrowing flourished during the housing boom.  Homeowners who had seen a dramatic increase in property values became a market for second mortgages.  These lines of credit promised a painless way to tap the homeowner’s paper wealth.

Banks made it easy.  They used computer evaluations of the property, stated income and easy documentation.  The second mortgage industry flourished.

But the HELOCS were also easy to default on.  Many homeowners maxed out their lines on consumer debt to maintain their lifestyle.  And as the economy faltered, their ability to meet all their monthly obligations tightened, as well.  Presented with a choice between what bills to pay, a lot of homeowners chose to pay their first mortgage before the second.

Massive losses from defaults on these portfolio products have made thrifts rethink the whole market.  In value-depressed areas, the institutions are freezing the lines they can.  They don’t want to be caught foreclosing on houses that are now worth 10-30% less than the time when the HELOCS were opened.

As a result, surprised homeowners have found themselves suddenly without the cash to finish their home improvement projects.  Others have lost the ability to pay for their child’s fall tuition to college. 

Spurred by consumer complaints, the Office of Thrift Supervision has issued a letter of its own to banks.  The Federal agency warns of the legal causes necessary to terminate contractual lending obligations.

You can read more about Wachovia here and the Office of Thrift’s actions here.