Guest post by Robert Sommers

With current mortgage rates still hovering just above historical lows, a lot of homeowners are tempted to pay off their original home loan with a second mortgage.

A second mortgage is taken out in addition to the existing mortgage and gives a homeowner access to cash in exchange for the equity in their home. Regardless of type, a second mortgage essentially function's as a second lien on your home and thus carries a high potential risk for the underlying lender.

When looking at a second mortgage tool or any other type of home loan that converts home equity into cash, (fixed rate, lines of credit, reverse mortgage, etc) you definitely need to consider all of the potential risks, as well as the rewards to make sure it's the right one for you.

Home Equity Loan

Home Equity Loans by far are the most popular second mortgage loans among American homeowners. A HEL is secured against the value of the underlying property and allows the homeowner to borrow money against their home's equity. The amount borrowed is dependent upon three things 1. the appraised value of the property, 2. the existing balance of the mortgage, 3. the amount of equity currently held in the property. The loan itself works in a similar way to other conventional loans, in that once approved by the lender, the borrower receives the entire amount as a lump sum.

The interest rate on a HEL is typically fixed, amortized for up to fifteen years and can very often be two or more percentage points higher than the interest rate on a comparable fixed rate conventional mortgage. Depending on factors such as income, debt, credit history, outstanding mortgage balance, and the value of your home, a lender will lend up to 75% of the borrower appraised property value, minus the balance of the mortgage. For example, if your home has an appraisal value of $570,000 and you still owe $220,000 on the mortgage, you could potentially borrow up to $207,500, if eligible.

Should you happen to fall behind on your payments and foreclosure occurs, your home equity loan lender has a subordinate claim meaning that it is next in line to receive proceeds from the sale of your home after the primary lender is paid.

Home Equity Line of Credit

Home Equity Line of Credit or HELOC also allows a homeowner to borrow against the value of their home is a. The loan is essentially a form of revolving credit in which your home serves as collateral. There are two major differences between this type of loan and a standard HEL. First, a HELOC typically has a variable interest rate rather than a fixed one, meaning that the amount of your monthly interest changes just as it would for an adjustable rate mortgage. The second difference is that rather than receiving the entire amount as a lump sum at the start of the loan, the borrower is given a predetermined line of revolving credit that has a draw period of 5-25 years during which funds can be drawn whenever needed.

There is a maximum limit that can be taken out and a minimum payment that is due each month, with the borrower given the option to pay off as much of the line as he and/or she wants- much in the same way as you would with a credit card or other revolving line of credit. A big advantage that comes with a HELOC is that the borrower pays interest only on the money that they draw, rather than the entire sum as they would with a Home Equity Loan.

Which Option should you choose?

Each of these options has advantages and disadvantages depending on your particular case. In a situation where you know exactly how much you need and a worthwhile plan for the funds (home repairs, school costs, and medical bills), a standard home equity loan would probably be your best option. Here you have the advantage of a fixed interest rate and the security of a finite monthly payment that remains unchanged for the life of the loan. This allows you to plan your finances more accurately in the long term.

If your extra expenses are recurring or variable, a home equity line of credit may be a better option than a HEL. Even though you pay a variable interest rate, you do so only on the money that you draw from the pool of available funds. However, keep in mind that the risk involved is very much similar to that of a credit card - in most cases you will actually receive a card that you can use to withdraw funds from the loan account. This can make it very tempting to spend more than you plan to or need to, and the variable interest rate may potentially cause problems if you end up spending more than you intended early in the life of the loan. Also, watch out for other risks associated with the HELOC's like hidden fees, pre-payments penalties, variable rates, abrupt freezes (J: Happened to me!!!) and closures.

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Robert Sommers is a freelance mortgage and real estate writer located in Baltimore. He has worked for over 25 years as a licensed real estate agent in all areas of commercial and residential real estate.

Labels: guest post, helocs, mortgages

1 Year, 5 months, and 17 days ago I wrote my very first post here on a personal finance lesson I learned the hard way. It was broken down into two parts: Operation Heloc: The Good, and Operation Heloc: The Bad, and it was all about how I tried to game the system to save a few dollars ;)

I was reminded of this when Tough Money Love cleverly celebrated his 1 year blogiversary by asking us bloggers to share exactly that - a financial lesson we learned the hard way. I've done a lot of crazy/stupid stuff in the past, but this one clearly stands out from the rest. You can read about it in depth via the links at the top, but here's the gist of it all in one paragraph:

When we first bought our house I started throwing all our paychecks AND savings/emergency funds against our maxed out HELOC (our 2nd mortgage) in order to defray a few weeks of interest. At the end of the month I'd take that credit back OUT and use it to pay our bills, mortgages, etc. This worked for 3 months until the housing market went to $hit and froze our credit line. Since it came without warning, I wasn't able to pull back any of the funds in time and thus denied us almost $10k in straight up cash. We tried to game the system and we lost, and now we keep all savings and emergency funds in a money market account ;)

Ever heard of UFirst Financial or money merge accounts? Well, it was sorta like that except I did it myself without fronting anyone $3,500. And in fact, it was a post of Trent's on money merge accounts that shed some light on this whole thing to begin with! I wouldn't be surprised if it's still one of his top posts, as it continues to get comments every single day. (currently at 2,432)

UFirst agents will still tell you their system works, and it may for some, but I just don't buy it (literally). Over the past year and a half I've come to realize that most things with finance are fairly simple. Anytime you try to cut corners or finagle a genius way to get rich quick, it usually comes back to bite you in the ass (unless you are, in fact, a genius). I'll still go and try out new ideas from time to time, but unlike the old me, I'll be sure to put in a lot more research before jumping in again.

In the meantime, I'll stick with the plain and simple method of personal finance: spending less and saving more. These two friends never steer you wrong ;)

Any of you learn a good financial lesson the hard way?

Labels: helocs, in the real world, mortgages, personal finance

Yeah, for sure! It may not override the ugly situation out there, but they do exist - they always do, it's just a matter of finding them sometimes ;)

The Public Insight Network shoots me a poll every now and then asking for some input, and this time I had something to say! And since they fit in nicely w/ the bloggy blog here, I thought i'd share them with y'all.

And maybe you've figured out how to make the economy work for YOU even better? I know we got some smart a$$ people out there taking full advantage :) Here are the 3 questions they threw over to me, along w/ my answers:

How has the financial crisis affected you?
Mainly, it's just gotten me more nervous about my job security - the first time in the 3+ years I've been here. Working for a start-up is naturally a bit unstable anways, but these days it's a little more crazier than normal out there. Other than that, my house value continues to plummet (at least I'm pretty sure it is!) and considering we bought it at close to peak, it's definitely no fun.

Has the financial crisis prompted you to follow your dreams or rexamine your priorities?
Yup! More so my priorities than my dreams as I'm pretty much doing my dream job right now ;) BUT, if that should ever fall though, I have a list of other fun jobs I'm interested in pursuing - graphic design, starbucks, and even banks! As for reexamining my priorities, I'm really just learning how to save even MORE than before....like by not shopping as much and making do with what i already have. Great for me, not so great for the economy.

Have you found a silver lining to the financial crisis?
Oh, most definitely! The interest rates have gone down an incredible amount, literally knocking hundreds of dollars off our 2nd Mortgage! We have a maxed out HELOC at Prime - .45%, and within the last year alone it's dropped from around 6% all the way down to 2.8%! It's really incredible. Now, if I can just figure out how to refinance my 1st mortgage w/out much cost, it' s home sweet sailing baby!

Labels: career, crazy economy, helocs

I heart CNN like crazy, they are REALLY on top of their ish over there! I'm signed up to their "Breaking News" text alerts they've got going on, and i was alerted @ 7:22am this morning about this .50 key rate decrease!

If you're a news whore like me, all you have to do is text "alerts" to 26688 and sign up, it's totally free from them (you might have to pay for txt messaging if your plan doesn't cover it), and they usually come like once or twice a week....or even 6 these days ;) But i digress...

This new cut by the Fed affects a whoooooooole lotta things out there. And I don't know about you (although i'd like to!), but here are the ways that it impacts my own situation. And i'll give you a hint - i'm pretty happy about it.

What this means for my HELOC. This means total greatness! Since our Home Equity Line of Credit is tied to the Prime Rate (which will in turn go down the .50), our adjustable rate will also now slide. Holler! Currently @ 4.55%, it'll now be a crazy low rate of 4.05%!!! how crazy is that? And you know it's bad out there when my 2nd mortgage is a whole 3 points BELOW my 1st mortgage (6.875%)! haha... (Thank GOODNESS I didn't lock in our Heloc rate @ 7.72% back in June!)

What this means for my Credit Cards. This also means greatness! Most credit cards are based on the prime rate + or - some points, so as that goes down, so does the % charged! Anything can happen in today's market, but right now this means that i'll also see a hefty drop of .50% on any non-paid off credit card purchases, bringing my interest rate down to 4.5% now. Of course, i don't really have any c/c debt that isn't locked in at a great rate anyways, so this is really just potential greatness we're talking about here.

What this means for my savings. Not so good :( It's all about even stephen though, isn't it? luckily/unluckily i don't have much in our savings at this point anyways, so i wont' feel a hit on interest income there, but i DO have a nice pile in our Emergency Fund ($4k+) which is set in a money market account. I'm sure we'll start to see lower returns in there, but i have to admit i'd take the rate cut over this anyday! Selfishly speaking, that is ;) The economy going up would be best overall.

What this means for overall. Now's a helluva good time to find a great loan @ a great price! That, and the economy is getting scarier by the day...but you already knew that.

So what does all this mean TO YOU? Will this benefit your own financial gameplan? Everyone has their own way of workin' in out, so i'm always curious to see what everyone's up to out there. Anyone have even better rates? And if so, can i borrow some moeny ;)

Labels: crazy economy, credit cards, federal reserve, helocs, interest

The Mrs. and i have made a decision on our HELOC dilemma! We have decided to stick with option #1 - to continue going with the variable rate with no locks. Your comments definitely helped us put things in perspective, and we feel the odds are in our favor :) And with the other week's news about the Fed leaving the rates unchanged, i'm thinking we're on the right path.

The worst that can happen is it starts to go up over time, but even so history shows the prime rate hasn't gone above 10% in 25 years...and if disaster does strike, raising it above this threshold, we'd hopefully be long gone with the loan anyways, or at least re-financed by then.

And if we're all wrong? well.....let's just say i'll be concocting some pretty colorful posts! That is, after i wipe up all the tears from my keyboard.

Labels: helocs, interest, mortgages

*Update: We've decided to go w/ option #1 :)
*Update 2: Our HELOC is currently at 2.80%!

Similar to my car dilemna, now going on 4 months w/out a decision, it's enough to drive a person crazy.

Do you lock in a rate now and hope you caught it on the rise, or do you wait it out a bit and save more money each month?

The funny part is that Mrs. Budgetsaresexy and I JUST had our first talk about this last Saturday, and we told ourselves that we'd lock in the next time it goes up...thinking we'd have at least a couple months before thinking about it again. Ooops. So I now bring this dilemma to you guys for help :)

Here are the details on our current loan:

• This is our "2nd Mortgage"
• It's a maxed out Home Equity Line of Credit (HELOC)
• It's an interest-only loan
• The rate is variable
• The current rate is 4.55% (Prime - .45%)
• The current balance is $62,602.23.

So basically, our current rate is lower than ANY OF OUR OTHER LOANS. It beats out our 1st mortgage, our car loan, and all credit cards. Sexy, ain't it? Of course though, that's only how it works out today.

There's a load of variables to consider here, not to mention hefty pros and cons, and we def. want to stay with USAA for a number of reasons. Here are the 2 options we're considering

Option #1 - Keep the loan as-is. Rate at 4.55%

• This rate can change at any time, depending on the Fed.
• We have 172 months to pay back this loan...8 months have already passed ;)
• This means monthly payments of roughly $230.
• PRO: Since we budget for $540 here, we save $300 every month!!! (our original amount when we purchased last year was $540, before re-financing and the fed lowering rates)
• PRO: Our emergency fund and house savings account gets padded each month with this $300!
• CON: We have no control since it's variable - The rate is associated with the WSJ Prime Rate, so it's all in the hands of the Fed. And considering it's been cut heavily over the past 10 months, I'm starting to believe the hype that it will start going back up.
• CON (in theory): It's interest-only - we are only paying off interest each month, adding nothing to the principal. I say in theory because the average home owner will not add extra to pay off the principal. We usually pay portions off sporadically, rather than a set amount each month. Our initial HELOC was $72k, so we've knocked it down by $10k already, even though we have an interest-only loan. Granted, most of this $10k was on accident.

We've been with option #1 from day one of buying our house, making it even harder to switch out as we're so used to it. It's so freakin' nice having that $300 cushion to play with :) BUT, we also know that we'll eventually need to lock in a rate as the tides WILL turn...it's just a matter of when.

It also gets a bit tricky because the rate above moves with the WSJ Prime Rate plus or minus the lender's points, while the rate to lock it in moves with the 182 T-bill (3 year ones I believe) plus or minus the lender's points. So it's like you have to judge two different trends.

Option #2 - Lock in a rate now at 7.72%.

• The interest rate will stay exactly the same now, as it will in 10 years.
• The HELOC would essentially convert into a Home Equity Loan (read about the difference)
• The loan will ammortize over 180 months
• The monthly payment would be around $588 (i used this simple loan calculator)
• PRO: We would now be paying both interest, AND principal. The main portion of course going to interest, but it's now all built in and mandatory - similar to a normal loan.
• PRO: No more worrying/thinking about interest rates adjusting, as it won't matter here.
• CON: The monthly price tag drastically goes up! no more padding any of our accounts :(
• CON: We'd now need to re-budget for an extra $45 a month, which is quite different than having an extra $200 to play with!

This lock in rate changes every month with USAA, on the 3rd Tuesday of the each month, so we have a few weeks to decide. It's important to note though that over the past 3 months it's gone from a steady 6.75% (from as long as I can remember) to 7.18% last month, and now to 7.72% this month.

As i mentioned, we're eventually going to have to lock in a good rate before everything goes up, but is that time now? According to that graph up at the top, taken from BankRate.com, i'm thinking option #2 is looking like the best bet here. What would YOU do?

Labels: helocs, interest, mortgages

It seems like every time I get close to reaching my goal of 5k, something happens and I get thrown back a bit. This time around my emergency fund got frozen* inside my Home equity line of credit, basically leaving me with zero now. Since it was used to pay part of the 2nd mortgage (the heloc), it's not like i really "lost" the money, but I still can't tap it in case of an emergency. In reality, an emergency wiped out my emergency fund!

There IS a lesson to be learned here: Emergency Funds should be totally liquid, and accessible 24/7!

Lucky for me i'm a pretty positive guy, so as frustrating as it is, at least i am learning something :) There's also something to be said from starting with a clean slate. Before this happened, I had accumulated $4,800, but slowly kept chipping away at it until it reached around $3,000. Then I had my "aha!" moment and started adding back to it. At this point, however, I kept thinking i was down 2k and couldn't feel content until i was back at 5k. Thus, every time i added $ into it I couldn't feel at all happy about it as I was just making up for it.

This time around, however, I will leave it alone 100% and watch it grow. So each time I add a little into it, I'll be proud every time knowing that i'm that much closer to reaching my goal. Now I'll be saving up, instead of catching up.

• This year's goal: To reach $5,250 (yahoo!) I'm fairly confident i can make this happen.
  
• My ultimate goal: To reach $10,500, which is what i'd need to survive for 3 months. (scary huh? I am working on lowering this, believe me.)

You can track my progress on the status bars to the right which i update monthly. Let's hope i keep pumping it up and reach my goal! Lord knows it won't be easy...

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*To read more on our heloc freezing up, read my operation heloc: the bad :( posting.
*To read more on why helocs freeze up to begin with, as well as some awesome commentary from users and how it affected them, read this article from The North County Times.

Labels: advice, emergency funds, goals, helocs

Wow... so now my HELOC will be down from 4.80% to 4.55% ... Can it get any crazier?
From MSNBC (can you tell i read this a lot?):

"The central bank is walking a tightrope, trying to jump-start economic growth while also confronting the risk that if it overdoes the credit easing it could make inflation worse down the road."

Labels: federal reserve, helocs, interest

MapGirl put out an interesting post yesterday about crazy interest rates these days, and it got me thinking. I, myself, have been coming across some pretty interesting things lately! Just take a look at our current interest rates:

• 1st Mortgage - fixed: 6.875%
• 2nd Mortgage (HELOC) - variable: 4.80%
• Credit Cards - variable: 5.25%

Can you believe that?! My credit card rates are LOWER than our 1st mortgage! haha...and it's not even by a little right now, it's by a whole point and a half. I get that our HELOC and c/c's are based on the prime rate, but my goodness it's pretty funny to look at.

Now, if i had the balls like some of you have, i'd take out a chunk of the credit card and throw it against our 1st mortgage! we'd save some pretty pennies for sure, but the whole thing scares me :) As soon as those rates start hiking back up, we'll have to knock away that credit card debt...and fast! We can't "lock in a rate" there like we can for our HELOC.

Speaking of which, although our $62k in our HELOC is variable right now, we always have the option of "locking in" a rate for a portion, or all, of the balance. While i don't think it's a good time right now, it's def. something for us to consider as the economy starts picking up. I'll be sure to keep you posted (pun intended).

In a perfect world though, we'd like to correct these #'s by refinancing our 1st mortgage. Bankrate is currently showing a national average of 5.79% for a 30 year fixed, which would save us a hefty $245 per month! BUT, there are a few hurdles we'd have to jump through:

1. We'd have to get it at "interest-only" - Currently this allows us to have a lower payment each month, while still giving us the ability to pay extra towards the principal. (It's not good for everyone, but for us it works.)
2. Our house would have to appraise within 10k of our purchase price - And since our HELOC was recently frozen :(, i'm gonna guess this is a long shot.
3. We'd have to pay closing costs and probably a point or so if i had to guess. - In the long run this would work to our benefit, but w/ Mrs. Budgetsaresexy soon to be in graduate school, we don't want to be shelling out much...esp if we might sell/rent out in the near future.

So, this leaves us back to square one :) But i'm not complaining! In fact, i hope the Prime keeps going lower to be honest. Selfishly, it effects us much more positively than does saving/bond/etc rates. On the other hand that would mean the economy isn't doing all that great....and that's plain scary!

Labels: credit cards, helocs, interest, mortgages

What a day for the consumer: The Fed cut rates by 3/4 a point, AND the Dow is up 400 pts!

(FOUR HUNDRED)

That's what i'm talking about :) This is huge for us as it'll drop our variable HELOC rate by .75%! Of course, this news isn't the best for those high-yield saving accts, but currently that doesn't apply to us.

A good 8 months ago we were paying 9% on our home equity line (our 2nd mortgage). But after all the fed cuts and refinancin' we did, it'll now be at an astonishing. 4.8%! Freakin' unbelievable. Of course, most of this is purely luck and timing, but hey i'll take that.

For those of you checking around for a decent loan or mortgage out there, i'd say it's not a bad time to pick one up these days ... And for all you investors out there. HOLLER!

Labels: federal reserve, helocs, interest, mortgages, stock market

We really got F'd on this one the other day! Seriously, it was going sooooo well. I really thought we fenagled ourselves a great deal. I mean, it still IS a great deal in that we are saving roughly $200 a month currently, BUT here is where they got us (and i didn't even see it coming!):

THEY FROZE OUR HELOC ACCOUNT!!!!

You might be saying to yourself, so what? You're still saving $200 a month. This is true, and i'm thankful for that. BUT consider what this now means:

1. It was frozen because the market values of the houses in our neighborhood have now gone down! And the bad part is i don't know by how much (according to my bank of course) as I have to await some elusive letter in the mail stating the amount. ARRGHHHH.
2. We have now lost access to our entire Checking and Savings account! Remember, we put 9k into it to save the additional interest each month with the belief we could take it out anytime we wanted...and this was working fine until now. Imagine your accounts having a $0.00 balance starting right now. Scary, eh?

So, did "Operation HELOC Savings" work? YES. It saved us $$$. BUT it also F'd us in the fact we "lost" all our savings and checkings, and we NOW have refigure out how to move on securely going forward, as well as start building the aforementioned accounts back up ... all the while paying our bill and mortgages at the same time.

On a good note, we (or really I), learned a big lesson here: Spend more time reading what I'm signing as there ARE loopholes for both parties. Seriously, i didn't see this one coming!

Labels: helocs, home ownership, mortgages

Yayyy, this is the HAPPY part!

So, "Operation Heloc" was put into place by my fiancee and i to save more money on our interest payments. Being brand spankin' new about houses, mortgages, etc, we really didn't know what we were getting into. We trusted our financial guy though (w/ Weichert Financial), and this is what we got:

1st Mortgage: 30 year fixed @ 6.875% - interest only, fixed rate.
2nd Mortgage: HELOC (home equity line of credit) @ 9%*- interest only, variable rate.

At first this didn't mean anything to us. After a cple months, however, it occured to me that 9% is pretty high considering the both of us have Excellent credit scores. I know it's a 2nd mortgage, but still. I started reading all the blogs out there and MAN there was a lot of info (Thanks guys!). The one that really caught my attention was a post from The Simple Dollar on Money-Merge accounts. After hours and hours of further research, it occured to me that we could (and did) do the following:

a) Refinance for a lower rate - We did this 3 months later and got it down to Prime - .45%!!! (at the time i believe it was 8.25%) knocking it down a good 1.2%!, and it only cost us $42 :)
b) We then took out most of our savings and checking $, about 9k, and "paid off" part of the Heloc. This was done by basically using the HELOC as a "checking" account. We xferred all our savings in it, deposited all my paychecks, and then wrote checks out of it to pay the bills. Wierd/COOL/neat? Yeppers. This in effect saved us even more in finance $.

So, overall the plan worked PERFECTLY! We saved a total of $72.00 each month just by doing the above. Since then, the rates have also been going down, so we are now set at a little over $200 savings EACH MONTH!

All in all i'm am happy with our decisions, and we have saved a total of $1,492.40 over the course of 6 months. I will, however, lock in a portion (if not all) of it when I feel the rates are at the lowest points.

Labels: helocs, home ownership, mortgages