Credit Crunch and Home Equity Lines of Credit (HELOCs)

Yesterday, I spent a considerable amount of time talking to clients who were concerned about the critical economic situation on Wall Street which is being debated on Capitol Hill and in the press. From practical experience and listening to the news coverage, the only thing that appears to be a safe statement is that NO ONE truly knows what is going on or the real extent of this crisis. Clearly there is plenty of blame to go around. However, it appears that a few changes here, a few changes there in addition to either the failure of or lack of regulation got us to where we are right now. And, of course, we can't leave out the greed factor here.

Many people are clearly upset that quite a few Wall Street executives have pocketed multiple millions of dollars in the last few years, and they do not want to further enrich these people. This is VERY understandable. It appears that one of the biggest issues here is that the people on "Main Street" want to make sure that the Wall Street people get their heads handed to them on a platter. However, in trying to do so, the average American may end up being the ultimate loser. And that would be very sad indeed.

The complexities of this situation are well beyond the abilities of any one person to solve and, most likely, the abilities of our elected officials. Most of them just do not have the complex financial background that this situation requires. The news reports indicate that none of the individual Senators or Representatives have actually seen any proposed legislation.

I know that when new tax legislation is released, it is usually several inches thick and is almost unreadable. In many cases, the presence of a single "and" or "or" can make the difference in the entire slant of the law. It normally takes many months and sometimes years and "technical corrections acts" to figure out the real impact of certain provisions that passed. For example, the Roth IRA legislation was passed about 10 years ago. While I immediately saw the benefits of this provision, I sat through many tax continuing education programs where CPAs could find no benefit to doing a Roth IRA. It is only in recent years that most financial advisers agree on this concept.

We are getting the message that this legislation must be passed IMMEDIATELY so that the financial markets do not collapse. So, if and when some type of legislation passes, we can be assured of two things: that SOMETHING was done and that it will take a long time to sort out the real implications of the legislative action. In the meantime, there is the very real possibility that the markets can freeze up entirely if nothing is not done or the right legislation is not enacted.

So - what should you do? The thought of not being able to use your credit card is pretty scary to some people. Right now a number of banks have actually decreased the amount of available credit to a number of their card holders. How would you feel if you needed some gas to get to work and the ATM did not spit out the $50 to $100 you needed to fill up your tank. Just think about it for a minute. But, suddenly, that is a real possibility here.

Yesterday I talked to a client who was concerned about the home equity lines of credit he has on a couple of his houses. He regularly uses these lines of credit to finance his business. He wanted advice on whether or not to take the money out now or wait. He did not want to withdraw the money and pay the interest on the funds sitting in a bank account which may never be used. I asked him what would happen if the bank froze his line of credit. He said that he would be out of business as many of his assets are either tied up in inventory, real estate or collectibles.

We spent quite a while discussing his situation. Another piece of this puzzle that factors in here is that the bank froze his line of credit last fall when home prices started falling. The bank wanted to determine if there was still enough equity in his home to continue to lend him the money. The equity in your home is the difference between the fair market value of your house (what you can sell it for) and the amount of the mortgages outstanding on your house. In other words, this is the portion of the house that you actually own. In many cases, people no longer have any equity left in their homes, and the amount of the mortgages exceeds the value of the homes. When the equity shrinks, the bank will close down your line of credit.

I asked my client how much warning he had been given when the bank froze his line of credit. He said he had no notice whatsoever. In fact, he even had written a check on his line of credit that had not cleared when the bank froze the credit line. The check was held up for a number of days while the bank performed its analysis. Luckily for my client, the bank honored the check and left his line of credit intact. However, many people have had their lines of credit decreased or closed down without any warning. This practice has been going on for about a year.

Another client of mine has a situation where where he has a home equity line and his spouse needs the money to pay for her long term care. If the home equity line is not available, the spouse could potentially be turned out on the street.

So, take a good look at your own situation and try and determine your needs in the immediate future and maybe even for a couple of years. We do not know how long this crisis will take to straighten out. If you will need the money from your line of credit in order to function, you may need to withdraw it now and stash it in some type of savings. But everyone is different, and there is no "one size fits all" answer.