Sunday, April 13, 2008

HELOC Nonsense

by Tanta on 4/13/2008 10:21:00 AM

Wow. Yesterday I disagreed with PJ over at Housing Wire. This morning I find myself taking issue with Barry Ritholtz at The Big Picture. If this keeps up, tomorrow I'll be arguing with God.

Yes, children, it's time for another installment of Picking on Poor Gretchen. And what a doozy it is this time, "You Thought You Had an Equity Line":

IT was the nation’s lending institutions and mortgage originators that got us into this credit mess, but it is consumers, taxpayers and those companies’ shareholders who will end up shouldering most of the costs.

The latest example of this is in the mass freezing of home equity lines of credit going on across the country. Reeling from losses on their wretched loan decisions of recent years, lenders are preventing borrowers with pristine credit and significant equity in their homes from tapping into credit lines that they paid dearly to secure.
I see. The inability to make a withdrawal from the home ATM is . . . "shouldering most of the costs" for the credit crash. Yeah, right.
In the last 30 days, lenders have sent several hundred thousand letters advising borrowers that their home equity lines of credit are frozen, estimated Michael A. Kratzer, president of FeeDisclosure.com, a Web site intended to help consumers reduce fees on home loans.
You'll want to pay attention to Mr. Kratzer, since he's The Sole Source for most of the real nonsense in this article. I'd suggest pausing for a moment to read what Mr. Kratzer has to say about himself on his own website. You may also ask yourself how FeeDisclosure.com makes its money, since "intending to help consumers" does not, as far as I can see, mean that this is a non-profit. You could also ask why the website is identified as "beta." Don't worry, I'll wait here for ya to come back.

Well, then.
Banks have the right, of course, to rescind these credit lines at any time under the terms of the contracts they struck with borrowers. And as home prices have tumbled in many parts of the country, banks are undoubtedly trying to protect themselves from exposure to additional losses.

But these actions are being taken even in areas where property prices are rising, Mr. Kratzer said. What’s worse, the letters provide no explanation for how the lenders determined that the property values underlying the equity lines had fallen.
This Kratzer--unless he's lying about his credentials on that website--has to have heard of this thing called an "AVM," or automated valuation model that a HELOC servicer can run on a specific property, to determine current value. What's with kicking up sand here? In fact, if he wasn't born yesterday he has to know that most HELOCs were originated with an AVM used to establish value, not an old-fashioned formal appraisal (unless they were originated at the same time as a first lien, and the appraisal for that loan--paid for in that loan's closing costs--was re-used for the HELOC).
One especially exasperating aspect of now-you-see-them, now-you-don’t equity lines is that borrowers are not receiving refunds for fees they paid to secure the credit in the first place.

These fees can be significant, Mr. Kratzer said: on a $50,000 line, for example, fees of $1,500 are common. If the line is being frozen at, say, $25,000, why shouldn’t the borrower be entitled to receive a refund of $750?
Where, when, in what dimension of physical space was it "common" to pay THREE HUNDRED BASIS POINTS to get a HELOC? Gretchen printed that claim in the Times?

Consumer Reports, from last August:
HELOCs generally have few if any fees because the market is so competitive. According to HSH Associates, a publisher of financial information, the average closing fee charged for HELOCs is about $60. Some lenders make you pay a maintenance fee, typically about $50 per year, if you don’t keep an outstanding balance.
The Mortgage Professor:
Upfront costs are also relatively low. On a $150,000 standard loan, settlement costs may range from $ 2-5,000, unless the borrower pays an interest rate high enough for the lender to pay some or all of it. On a $150,000 HELOC, costs seldom exceed $1,000 and in many cases are paid by the lender without a rate adjustment.
Go ask Mr. Google for more, if you want. But I'm still convinced that most people with a recently-originated HELOC didn't pay ANY closing costs on the HELOC itself over about $100. That's not even pointing out that the "LOC" part of the name, meaning "Line of Credit," implies that these lines revolve. Somebody with a "current balance" of $25,000 may have borrowed $25,000 six times. You know, like your credit cards. Whatever.
Borrowers who have an excellent credit score may also find that status hurt when a home equity line is frozen. That is because when a lender suddenly caps a $50,000 line at $25,000, the borrower will appear to have tapped the entire amount of the loan, a factor that can reduce a person’s credit score. Never mind that, based on the original amount of the credit line, the borrower is using only half of it.
First of all, if you have this "pristine credit" thing here, the hit to your FICO for having a high "balance to limit ratio" on your HELOC all of a sudden might take you from 800 to 780. That's from "infinitesimal probability of default" to "infinitesimal probability of default." Only if you just assume that lenders' calculation of the value of the property is flat-out wrong--that there really is this "equity" there--is that somehow "unfair." You went from owing a smaller percent of the value of your home to owing a larger one, because the value of your home changed. This is called "marking to market," and I thought Gretchen liked that idea. I guess only when it's banks. When it's middle-class people with their "pristine credit," fantasy should be allowed.
Mr. Kratzer said he had heard from frozen-out borrowers in 11 metropolitan areas where the median home price actually increased in the last quarter of 2007, the most recent figures available from the National Association of Realtors. They include Yakima, Wash.; Appleton, Wis.; Raleigh-Cary, N.C.; and Champaign-Urbana, Ill. Borrowers in areas where prices remained flat have also contacted him.
Oh, well, sure, if the median price in a region is going up, that must mean that the value of all homes is going up. What, you say? It might be a function of no sales at the low end and a few sales at the highest end, pushing up that median? What is that, some kinda statistical wankery you're trying to confuse us homeowners with?

The whole article, besides depending on Kratzer's unsourced assertion of "common fees" and his innuendoes about lender valuations, merely begs the question: this is "unfair" because the equity is there, even though the lenders say the equity isn't there. There isn't one homeowner quoted who actually got an appraisal or AVM that shows something other than the bank's valuation. Kratzer seems to think the bank is obligated to pay for a new appraisal and send you a copy when they lower your line limit. For him, I got bad news: that would, indeed, bring average closing costs on HELOCs up to 300 bps.

Maybe it will help everyone who is all up in arms about this to ponder the fact that since 2005 the federal regulators have required banks to engage in exactly the behavior Gretchen thinks is so unfair. We will stare into the pitiless gaze of the Board of Governors of the Federal Reserve's "Credit Risk Management Guidance For Home Equity Lending":
Effective account management practices for large portfolios or portfolios with high-risk characteristics include:

· Periodically refreshing credit risk scores on all customers;
· Using behavioral scoring and analysis of individual borrower characteristics to identify potential problem accounts;
· Periodically assessing utilization rates;
· Periodically assessing payment patterns, including borrowers who make only minimum payments over a period of time or those who rely on the line to keep payments current;
· Monitoring home values by geographic area; and
· Obtaining updated information on the collateral’s value when significant market factors indicate a potential decline in home values, or when the borrower’s payment performance deteriorates and greater reliance is placed on the collateral.

The frequency of these actions should be commensurate with the risk in the portfolio. Financial institutions should conduct annual credit reviews of HELOC accounts to determine whether the line of credit should be continued, based on the borrower’s current financial condition. 10 Where appropriate, financial institutions should refuse to extend additional credit or reduce the credit limit of a HELOC, bearing in mind that under Regulation Z such steps can be taken only in limited circumstances. These include, for example, when the value of the collateral declines significantly below the appraised value for purposes of the HELOC, default of a material obligation under the loan agreement, or deterioration in the borrower’s financial circumstances.
Claiming or implying that the only reason a lender can or should reduce or freeze a HELOC is when the borrower's ability to repay has changed is not just a total misunderstanding of federal banking regulations, it's dumb. The "HE" in "HELOC" stands for Home Equity. This is not just any old revolving line of credit, it's secured credit.

If you have problems with paying a grand or two for a line of credit you may never use, I suggest not doing it. If you wish to consider that you paid an option fee and your option expired, well, you can feel like one of the professional hedgers. If you think any closing costs you paid should be refunded to you because you're now "out of the money," I posit that you do not understand finances enough to get quoted in a newspaper.

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