Beware The Looming "Wave Of Disaster" From Home Equity Payment Resets

Submitted by Michael Krieger of Liberty Blitzkrieg blog,

Of all the screwed up, misallocated parts of the U.S. economy, the housing market continues to be one of the biggest potential train wrecks. While the extent of the insanity in residential real estate should be clear following the article I published yesterday, there are other potential problems just on the horizon.

One of these was written about over the weekend in the LA Times. In a nutshell, the next several years will start to see principal payments added to interest only payments on a large amount of second mortgages taken out during the boom years. The estimate is that $30 billion in home equity lines will reset next year, $53 billion in 2015, and then ultimately soaring to $111 billion in 2018.

From the LA Times:

Some mortgage and credit experts worry that billions of dollars of home equity credit lines that were extended a decade ago during the housing boom could be heading for big trouble soon, creating a new wave of defaults for banks and homeowners.

That’s because these credit lines, which are second mortgages with floating rates and flexible withdrawal terms, carry mandatory “resets” requiring borrowers to begin paying both principal and interest on their balances after 10 years. During the initial 10-year draw period, only interest payments are required.

But the difference between the interest-only and reset payments on these credit lines can be substantial — $500 to $600 or more per month in some cases.

According to federal financial regulators, about $30 billion in home equity lines dating to 2004 are due for resets next year, $53 billion the following year and a staggering $111 billion in 2018. Amy Crews Cutts, chief economist for Equifax, one of the three national credit bureaus, calls this a looming “wave of disaster” because large numbers of borrowers will be unable to handle the higher payments. This will force banks to either foreclose, refinance the borrower or modify their loans.

Financial regulators, including the comptroller of the currency, are aware of the coming bulge in high-risk resets and have been urging the biggest banks to set aside extra reserves for possible losses. Last month, Citigroup said it was increasing reserves on its nearly $20 billion in home equity lines and acknowledged that the reset payment shocks for borrowers could be a major challenge.


Full article here.

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