Nearly half of the nation’s outstanding second lien home equity lines of credit (HELOC) will amortize over the next several years, raising monthly payments and increasing the risk of a rash of new delinquencies that could result in new defaults and foreclosures.
Lender Processing Services today joined Equifax in raising alarms about prospect that aging HELOC loans written in the final years of the housing boom could result in a huge number of defaults, creating a “wave of disaster.”
Some 48 percent of outstanding second lien home equity lines of credit, which were originated between 2004 and 2006, will begin amortizing on their tenth anniversaries.. As the payments on these HELOCs become fully amortizing, many borrowers may see monthly payments increase. Recent increases in new problem loans among HELOCs originated prior to 2004 that have already begun amortizing indicate the huge wave of newly amortized loans poses increased risk of more delinquencies ahead, LPS said.
“In the aggregate, the home equity market is experiencing lower delinquencies,” said LPS Senior Vice President Herb Blecher. “However, among the HELOC population that has already begun amortizing, we are actually seeing an increase in new seriously delinquent loans. As of today, only 14 percent of second lien HELOCs have passed this 10-year mark, leaving a very large segment of the market at risk of payment increases over the coming years. Nearly half of all of these lines of credit were originated between 2004 and 2006, with the oldest set to begin amortizing next year. If this trend toward post-amortizing delinquencies carries over, we could be looking at significant risk to the home equity market over the coming years.”
Data from consumer credit agency Equifax is even more alarming, indicating that the number of HELOC borrowers missing payments can double in the eleventh year of the loans. Particularly concerning to lenders is that they stand to lose 90 cents on the dollar when these loans go bad. Because a HELOC is typically a second mortgage, foreclosure proceeds will go to the first mortgage and leave little if anything for the home equity lender, Amy Crews Cutts, the chief economist at Equifax, recently told mortgage bankers that the coming increases to homeowners’ monthly payments on these home equity lines is a pending “wave of disaster.
Banks marketed home equity lines of credit aggressively before the housing bubble burst, and many consumers used these loans like a cheaper version of credit card debt, paying for vacations and cars.
Borrowers are delinquent on about 5.6 percent of loans made in 2003 that have hit their 10-year mark, Equifax data show, a figure that the agency estimates could rise to around 6 percent this year. That’s a big jump from 2012, when delinquencies for loans from 2003 were closer to 3 percent.
Two weeks ago Reuters’ Peter Rudegair reported that more than $221 billion of HELOCS at the largest banks will amortize over the next four years, about 40 percent of the home equity lines of credit now outstanding.
Some regulators, rating agencies, and analysts are alarmed. The U.S. Office of the Comptroller of the Currency, a regulator overseeing national banks, has been warning banks about the risk of home equity lines since the spring of 2012. It is pressing banks to quantify their risks and minimize them where possible.
HELOC stands for home equity line of credit. Using a HELOC, borrowers receive the lender’s promise to advance you up to $150,000. You can draw on the line by writing a check, using a special credit card, or in other ways. Most HELOCs are second mortgages though an increasing are first mortgages. HELOCs have a draw period, during which the borrower can use the line, and a repayment period during which it must be repaid. Draw periods are usually 5 to 10 years, during which the borrower is only required to pay interest. Repayment periods are usually 10 to 20 years, during which the borrower must make payments to principal equal to the balance at the end of the draw period divided by the number of months in the repayment period. Some HELOCs, however, require that the entire balance be repaid at the end of the draw period, so the borrower must refinance at that point.
At Bank of America, around $8 billion in outstanding home equity balances will reset before 2015 and another $57 billion will reset afterwards but it is unclear which years will have the highest number of resets. JPMorgan Chase said in an October regulatory filing that $9 billion will reset before 2015 and after 2017 and another $22 billion will reset in the intervening years, reported Rudegair.
At Wells Fargo, $4.5 billion of home equity balances will reset in 2014 and another $25.9 billion will reset between 2015 and 2017. At Citigroup, $1.3 billion in home equity lines of credit will reset in 2014 and another $14.8 billion will reset between 2015 and 2017.
Bank of America said that 9 percent of its outstanding home equity lines of credit that have reset were not performing. That kind of a figure would likely be manageable for big banks. But if home equity delinquencies rise to subprime-mortgage-like levels, it could spell trouble.
In terms of loan losses, “What we’ve seen so far is the tip of the iceberg. It’s relatively low in relation to what’s coming,” Equifax’s Crews Cuts said.