Saturday, November 22, 2008

Equity Extraction - Is it worth it?

One common response to the freezing of home equity lines is to take all of the available equity before getting cut off. Depending on how the individual handles the funds has a lot to do with if it is a risk worth taking. If you are going to fritter away the funds - better to just be cut off. If you can lock the money up in a safe place with a decent interest rate it may be a option. But being realistic, having no savings and just some equity that has built up probably means one is not that good with their funds that they will leave the money untouched. They also may find themselves underwater eventually - creating a whole new set of problems.

Withdrawal of one's home equity is very risky scheme. In the Seattle Times there is a good article titled the Pros and Cons of home-equity loans. Lets take a look -

Many people who took out home-equity credit lines of $100,000 on their home and used only, say, $20,000 have received letters informing them they can no longer borrow additional money, just as their stock portfolios are dwindling.

But a new countermeasure is emerging: take out the money before the bank puts it out of reach.

In this strategy, borrowers draw the maximum amount even if they don't need it, then place the cash in a liquid, and safe, investment vehicle.

First, if the value of a home drops significantly and the borrowers have spent the cash from their equity line, they can end up owing more money than their property is worth. (In industry parlance, the borrower is then "under water" or "upside down.")

The prospect of easy money also is a temptation that some borrowers will find difficult to resist.

But for those with enough self-restraint not to spend more than they need, withdrawing the full credit line may be easier than having a credit line rescinded and then finding another bank.

Our view - unless you will still have significant equity in the house after the extraction and another 20% decline and you will not spend the funds except in cases of absolute, ABSOLUTE emergencies perhaps it is a sound choice. If you will be underwater or close to it after the extraction perhaps it is a time to re-evaluate your funds and lifestyle.

However there probably is the group wrestling with the fact that they will be underwater, can take the extraction and just walk away. Is a potential foreclosure worth $100,000? $200,000? $400,000? Probably for a group of people the answer is yes.