By David Pilley on August 9, 2011
.jpg.aspx?width=75&height=75) Getting into debt has never been easier. At the same time, while there may be more options for solving your debt, that part has only been made more complicated. One of the problems is that lenders want to make money, and they’re finding new ways to do so. One type of loan being offered is a 125 percent home equity loan, and it can have some devastating effects if you default on it.
There are many reasons to get a home equity loan. The money you receive from it can be used to make home repairs, or you could also choose to consolidate unsecured debts into an account with a lower interest rate than what was on your credit cards. The traditional amount of a home equity loan has a loan-to-value ratio of 80%. This means if the mortgage on your home is $100,000, lenders are willing to approve you for a second loan up to $80,000. The loan’s collateral is your property, so default and you’re in trouble.
However, lenders are pushing the envelope by trying to make larger loans seem more appealing. A 125 percent loan means the amount being offered is 25 percent more than the value of your home! The interest rates on these babies may be less than credit cards, but they may still be in double figures percentage-wise, up to around 20%. And, while the interest is tax-deductible on your average home equity loan, that’s not the case with a 125’er. Tax deductibility does not apply to any amount over the value of your home. So, if the value of your home is $100,000, the loan you received was $125,000, but the interest on the final $25,000 is not tax-deductible.
If you are applying for a 125 percent home equity loan, you need to have a stable economic situation. You need a solid income, an excellent credit score, and you’d better not be moving any time soon. This type of loan has a longer payback term than your mortgage, possibly up to 40 years! If you thought paying back your student loans took forever, then paying back this type of home equity loan may feel like two lifetimes.
A 125 percent home equity loan is a gamble. Sure, you could use it for home repairs in hopes that the property’s value will rise, or you could use it to consolidate unsecured debts and pay a lower interest rate. However, you could do just the same with a loan whose loan-to-value ratio is the traditional 80%. A 125 percent home equity loan is certainly not for the average Joe, and the possible negatives seem to outweigh the positives. If you get one and default, you could be out of home in a short time, and if you get one and stay current, you’d better love your neighborhood because you could be staying in your home for a much longer time than expected.
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