Desperation drives the shell game of home equity loans


THE SAME banking industry that in recent years induced millions of Americans to become slaves to their credit cards, making it easy for working families to saddle themselves with crushing 18 percent debts that can take a lifetime to pay off, is now coming to their rescue.

The home equity loan is so easy to get you can practically secure one by yelling out your window. In one recent week, my mailbox was for the first time stuffed with more offers begging me to apply for instant home equity loans than it was with new pitches to apply for credit cards at highly tempting and highly temporary "low annual rates" that go up to near loan-shark levels after six months or a year.

This must be a milestone in banking history. And sure enough, I checked statistics and found that these loans are one of the banking industry's hot growth sectors. Balances on home equity loans will soon reach half a trillion dollars, about 14 times higher than 10 years ago.

And what is one of the most common reasons people take out these loans? Why, to pay off huge credit-card balances that have gotten out of hand and threaten them with either bankruptcy or years of high monthly payments that leave them with next to zero discretionary income.

Loan shark rates

It is easy to say that only idiots succumb to credit-card temptation and max out their balances. And, true, law now requires card issuers to state annual percentage rates in plain English. Still, loan-sharking is illegal if not frowned upon in most states, and many of these people who never default on their cards are paying dearly for the sins of deadbeats who do.

So I guess we should be grateful to the banks and other home equity lenders who are offering such a painless solution. You simply mortgage your home for up to 100 percent of its value with payments stretched out well into the next century and at an interest rate that may be effectively less than one-third the rate you're paying on credit-card balances.

One reason this is such a good deal is that the interest on most home equity loans is tax-deductible. This, in effect, reduces the already favorable rate -- which is typically around 9 percent -- to 5 percent or lower. The banks love the business because the government helps subsidize their loans and because most people don't want to have to live in a tent and so are likely to pay their home loans before everything else. The lenders experience fewer defaults than with credit cards.

What could be fairer? Well, one thing that could be fairer is a banking system less inclined to make it so easy for people to run up huge credit-card balances in the first place. It is, sadly, sheer desperation that drives many people to take out home equity loans.

Help from Uncle Sam

The Tax Reform Act of 1986 was supposed to end the wasteful practice of tax subsidies for consumer credit. Before 1986, people could go out and borrow themselves silly to buy cars, jewelry, mink coats, furniture, even groceries and know Uncle Sam would help them with the payment because interest on consumer debt was tax-deductible. This drained the Treasury of billions annually to support an activity of questionable social and economic value.

The deduction for interest on home mortgages was retained after 1986, because the tax reformers at the time thought it was too explosive an issue, that killing the deduction for home mortgages would kill tax reform itself.

Now, by encouraging people to convert ordinary consumer debt to home equity loans, the lenders are driving Humvees through the loopholes left gaping in 1986. And while the percentage of Americans owning homes is at an all-time high, the very meaning of "home ownership" may have been radically altered if home equity becomes an asset to be tapped like a beer keg.

Robert Reno is a Newsday columnist.

Pub Date: 10/06/99

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