Financial ‘Land Mines,’ Groups Claim : Home Equity Loans Bring Consumer Warning

Home equity loans, a new source of credit for thousands of homeowners, are financial land mines that could explode in the face of an unwary borrower, two consumer organizations charged Monday.

Consumers Union and the Consumer Federation of America said surveys of banks offering the newly popular form of credit show that they are being heavily promoted, but usually without disclosing pitfalls that could cost borrowers their homes.

They said some lenders write contracts that allow interest rate changes without limits on how often or how much the rates may be changed. True rates may be hidden in advertising by “teaser” rates that are good for only 90 days or so, the groups contended.

Some banks allow borrowers to make interest-only payments for an indefinite period, then hit the homeowner with a balloon payment for the full outstanding balance--an amount that can be $20,000 or more.

Some charge initial fees, ranging as high as $2,000, plus annual fees ranging from $15 to $100, that can wipe out the tax advantages of equity loans.

And few make real efforts to fully disclose their rates and terms to prospective customers, the consumer groups said.

“Home equity loans are land mines that could be triggered by income loss, higher interest rates or a large balloon payment,” said Stephen Brobeck, executive director of the Consumer Federation of America. “The resulting explosion could destroy one’s home.”

Home equity loans are, in effect, second mortgages. They allow the borrower to pledge the equity in his home to back a credit line.

They have become increasingly popular because interest on a real estate loan generally is deductible on federal tax returns, while interest on other loans is losing its tax-deductible status under the new tax law.

But the equity loans present a risk because their security is the home. If the borrower is unable to meet his obligation, the bank can foreclose on the house just as if the loan was a regular mortgage.

The consumer groups called on Congress to put caps on how often and how much the interest rate on variable-rate home equity loans can be raised; to eliminate balloon payments, interest-only payments, payment terms that allow the outstanding balance to get bigger rather than smaller and other risky payment features, and to require full disclosure of terms.

Many of the charges were disputed by the banking industry, which said there was no evidence the loans were being abused by either banks or consumers.

Delinquency rates are low, said Fritz Elmendorf of the Consumer Bankers Assn., and industry surveys show consumers are properly limiting their use of equity loans to extraordinary purposes, such as college tuition or unexpected medical expenses.