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Mortgage

Trouble ahead: Tidal wave of HELOC resets about to hit

Bubble borrowers about to see payments spike

Home equity lines of credit taken during big housing bubble just before the crash may hit the millions of homeowners with home equity lines of credit with a dramatic spike in their payments. 

This comes at a time when even economic bulls are seeing a systemic weakness in the economy.

According to RealtyTrac, 3,262,036 HELOCs with an estimated total balance of $158 billion that originated during the housing price bubble between 2005 and 2008 are still open and scheduled to reset between 2015 and 2018.

Of that, 56% are potentially resetting with higher, fully amortizing monthly payments from 2015 to 2018 are on properties that are seriously underwater.

With HELOCs, the first ten years – known as the draw period – gives the borrower access to a line of credit where they can borrow and repay as needed. Only a minimum payment of interest-only is required.

But at the end of the 10-year draw period, the line of credit is no longer accessible and the outstanding balance then converts to the repayment term, where both principal and interest payments are made, typically over a 20-year period.

Bankrate.com’s Chief Financial Analyst, Greg McBride, notes that a $30,000 balance at a current rate of 3.25% carries a minimum payment of $81.25. But, once that same $30,000 balance recasts to a 20-year repayment schedule, the monthly payment more than doubles to $170.16.

“It is this conversion from interest-only payments to principal and interest payments that could pose problems for unsuspecting or ill-prepared borrowers, particularly at a time when household budgets are still very tight and income gains have been hard to come by,” he says.

Daren Blomquist, vice president at RealtyTrac, says this coming wave may be worse than the relatively easier ride that resets had in 2014 had.

“While these underwater homeowners experiencing payment shock from resetting HELOCs are at higher risk for default, the good news is that we’ve already seen a large wave of more than 700,000 resetting HELOCs in 2014 without a corresponding wave of defaults,” Blomquist said. “The bad news is that a much lower 40% of those 2014 HELOC resets were on seriously underwater homes. We are entering a period of higher risk over the next four years when it comes to resetting bubble-era HELOCs — especially given slowing home price appreciation that offers underwater homeowners less hope of recovering their equity in the short term.”

There will be a geographic concentration of these resetting HELOCs in the sand states – Florida, California, Arizona, and Nevada – but they cross most income levels in terms of distribution, McBride says.

“Those who are upside down are going to be in the most perilous position – but a lot of those already defaulted,” McBride says. “At the household level even if they have equity affected homeowners will see a significant payment increase.”

As for options for homeowners – McBride notes that since mortgage rates are still well below 4%, lenders could lump resetting HELOCs in with a mortgage refinance, or refi the home equity line altogether.  

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