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Home Equity Loans – The Pitfalls Of Releasing The Equity In Your Home
By: Joseph Kenny
House prices have been rising fast all over the UK over the last couple of
years. Many people are experiencing a significant increase in their overall
wealth as a result. In the United States, this has been termed the ‘wealth
effect’ with an increase in the value of people’s homes being recognised as
creating the confidence among consumers to borrow and spend more money and thus
fuel the economy. The very same trends can be witnessed in the UK where people
are using the equity in their homes to pay for more and more luxuries.
Basic Concept of Home Equity
The way this works is quite simple. Supposing you take out a one hundred per
cent mortgage and buy a home for one hundred thousand pounds. Since you borrowed
one hundred thousand, and spent one hundred thousand, you will have a net equity
of zero, since your assets (the house) are equal to your debts (the mortgage).
However, with increasing house prices, it is common for such a house to be worth
say one hundred and fifty thousand pounds after a few years. This will now leave
you with a positive equity of fifty thousand pounds, since you still only owe
the bank one hundred thousand, or in fact probably less by now. You have
increased your wealth by fifty thousand pounds without actually doing anything.
Unlocking the Equity
This extra wealth does not have to stay locked up in your house. What you can do
is go to a bank, and ask them to lend you fifty thousand and secure it over the
extra value in your home. If you do this, you will not have higher mortgage
payments as the amount you owe the bank is higher, but you will also have fifty
thousand pounds to spend as you wish.
Re-Invest In The Home?
You do not have to spend it all at once, but many people pay for home
improvements or extensions with the money. This is generally a good idea, as
since the debt is long term, you should spend it on something that will benefit
you in the long term, and probably further increase the value of your home.
Other people may spend the money on cars, shopping sprees and holidays, which
may not be such a wise decision as you will be repaying the mortgage over the
next twenty five years, but will have spend all of the money within a couple of
months.
While the choice of how to spend the money rests with individuals, the fact of
the matter is that more and more people are taking advantage of the equity in
their home in this way.
Dangers of Home Equity Loans
Everything is rosy in the garden at the moment, but what would happen if you
unlocked your equity, had the time of your life travelling around the world only
to come back home to find that you have lost your job? In the example above you
would not only be one hundred thousand pounds in debt, there would be another
fifty thousand – the equity that you have just spent. This will result in
increased mortgage payments that you will struggle to pay without any income.
The Housing Market Collapse
However, the most disturbing factor involved would be a change in the direction
of the housing market. You may believe that your home is safe and can’t lose
value in an economy that never stops growing, but it can. During the Eighties in
the UK we witnessed just that. In the first few years a fantastic boom were
everyone seemed to have money, times were good, then suddenly the interest rates
begun to rise in an attempt by the Bank of England to curb spending. Mortgage
repayments for almost every household in the UK also increased and people
started to downsize their homes in an attempt to decrease their monthly
payments. The housing market became static and prices fell, pushing peoples
mortgages into negative equity.
Precautions in Home Equity Loans
What this article hopes to impose on you is that you should never rely on any
outside factors for your home. As any Las Vegas gambler will tell you, never
‘gamble’ with a with things that you can’t afford to lose. If you are
considering a home equity loan then you should use the money carefully, the
optimum use (and most common) is to re-invest in your home, increasing its’
value.
You may freely reprint this article as long as the author bio and live links are
left intact.
About the Author:
Joseph Kenny writes for the UK Loan Store, visit them here,
www.ukpersonalloanstore.co.uk and more information on home loans available on site. |
