Suddenly the home equity loan, for 55 years the loan of last resort for Americans in financial straits, is the hottest financial product in town.
"It's one of the most amazing turnarounds I've ever seen. Ever since the Great Depression, this was the black sheep of the lending industry . . . and all of a sudden black wool is in," said Stuart A. Feldstein, president of SMR Research, a New Jersey researcher and publisher that just completed a yearlong study of home equity lending.
The catalyst? To a large degree, tax reform.
Under the vastly altered tax laws, interest charges on loans secured by homes are still fully tax-deductible in most cases. No other consumer interest is.
So consumers, their appetites whetted by a massive advertising blitz, are flocking to banks, savings and loans, consumer finance companies and other financial services firms to trade in their car loans and other consumer debt for a loan secured by the equity in their homes.
Once there, they discover that tax-deductibility isn't the only advantage of home equity loans--or HELs, as the financial industry has dubbed them. The interest rates are much lower than on other consumer loans, and the payoff period is at least three times as long.
Together, that means much lower monthly payments for consumers in need of extra cash or a tax writeoff. It is also a boon to lenders, some of whom have watched their home equity business more than quadruple in less than six months.
So why do lenders such as Robert Weber, vice president of product management for Security Pacific National Bank, consider these loans "a frivolous way of using something that's very dear" to homeowners?
"Many consumers don't think it makes sense to take a home, an appreciating asset, and use that to pay for a depreciating asset such as a car," said Weber.
The flexible interest rates that most of these loans carry is another concern. Rates are low now. But if they start rising, debt counselors fear, many home equity borrowers may find themselves overextended.
"There is a great temptation here to over-borrow," Feldstein said.
The concern he shares with many debt counselors and lenders is this: Joe Consumer visits his local banker, intending to take out a $5,000 home equity loan so he can pay off his car loan and some hefty Christmas bills. Instead, he walks out with a $20,000 line of credit, secured by the equity in his home, after learning that he pays no more to get four times the borrowing power.
"There's no danger as long as his financial situation doesn't sour and this environment of low interest rates continues," Feldstein said.
So what do you do? Tax reform, bill consolidation or a sudden thirst for some expensive new possession has you pondering the wisdom of using your home as security for a loan. Lenders of all sizes and persuasions are inundating you with sales pitches for home equity loans, each slightly different. But you still remember when second mortgages were something to be embarrassed about--a black mark against your financial prowess.
After investigating these loans for a full year, Feldstein concludes that the home equity loan "is absolutely a good deal."
But he urges that each consumer decide for himself--by drawing up a list of pros and cons.
The tax break driving the current rush into home equity loans is a good place to start.
Among the popular breaks that lawmakers have excised from the tax code is the deduction for consumer interest charges. In the past, taxpayers who itemized their deductions could subtract from their gross income any interest they paid on credit card bills or on consumer loans for cars, furniture, college tuition and the like.
Beginning this year, that deduction is gradually being phased out. Such interest will be 35% disallowed in 1987, 60% disallowed in 1988, 80% disallowed in 1989, 90% disallowed in 1990 and eliminated in 1991.
As is often the case when a popular tax break is under siege, though, inventive accountants searched for and quickly found a loophole in the new tax laws.
The upshot: Homeowners who itemize their deductions still have a way to deduct such interest.
The strategy: Take out a second mortgage on your house, secured by the equity you have built up in it, and use the money to pay off your car loans and other consumer debts.
Your overall debt and the interest payments you make on it may not change at all. But your out-of-pocket expense will decline using this strategy because the interest on home equity loans remains deductible under tax reform--as does the interest on first mortgages on a homeowner's primary residence and second home.
Lawmakers did write in some limitations. Interest on such loans is tax-deductible only if the sum of all loans you have on your home doesn't exceed the home's original purchase price plus the cost of improvements.