NEW YORK (MainStreet) – Looking for a silver lining in today’s dismal financial news? Well here it is: interest rates on home equity loans are dropping.
The latest BankingMyWay.com survey shows that the average 180-month installment loan has dropped nearly a full percentage point in one week, from 7.8% to 6.86%. Rates on most other loans, from 36 to 120 months, have fallen by similar amounts.
There’s just one problem: Lenders may not actually give you those rates. In fact, a number of obstacles prevent many homeowners from qualifying for any home-equity loan, though there are some ways to work around the problem.
“Today, many mortgage lenders don't even bother to offer home equity loans (second mortgages),” says HSH Associates, the mortgage-data firm. “Too many holders of second liens got burned when homes lost value and the homeowners walked away, or when folks lost jobs and the first lien holder foreclosed.”
About a quarter of homeowners with mortgages are underwater, owing more than their homes are worth. Many others are barely above water, with too little equity to support a loan. No equity means no loan.
Still, about a third of homeowners have no mortgages, or have owned long enough to have plenty of equity despite the drop in home values over the past few years. Ordinarily, these would be prime candidates for home equity loans.
Unfortunately, skittish lenders have tightened restrictions. In 2007, HSH says, it was possible to get a $50,000 home equity loan with a credit score of 620. Now you’re likely to need a score of at least 720, perhaps 760.
A few years ago it was possible to get a home-equity loan for 100% of the property value, now the maximum is typically 70%, HSH says, adding that lenders now want applicants to have at least two years with the current employer, rather than just two in the same profession. Lenders are also looking more closely at “contingent liabilities,” or payments you don’t have now but could later, such as obligations for a loan you have co-signed.
To improve your loan chances, check your credit history and correct any mistakes, to make sure your score is as high as it ought to be. You also might cancel high-rate credit cards you don’t need, as each one reduces your credit score somewhat, even if you carry no balance. The more lines of credit you have, the riskier you appear to a home-equity lender.
Though some lenders may not want your business, others might. HSH recommends a wide search, with special attention to local banks and credit unions. You might also appear less risky if you apply for a smaller loan for a shorter period.
If you do need a lot of money, consider a cash-out refinancing instead of a home equity loan. Rates on first mortgages are considerably lower – about 3.5% for a 15-year mortgage versus 6.86% for the 15-year home equity loan – because in a foreclosure the first-mortgage lender gets repaid first.
With a difference that big, it might be worth it to pay the higher closing costs involved in a refinancing.