For Capital, There’s No Place Like Home

After 38 years of working for all manner of employers in the gritty printing industry, Terry Hill became his own boss last April, fulfilling a lifelong dream by buying a small print shop in Encino for $125,000.

Financing wasn’t a problem. He had a terrific source: a cream-colored four-bedroom house in Simi Valley worth about $210,000--and rising.

By refinancing, Hill pulled out enough cash from his home to cover most of the purchase price for the business, Print Crafters. “The equity was there. It was just sitting there,” said Hill, 58, an affable man with a gray mustache. “Why not tap into it.”

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Hill, his wife, Nicole, and their lender, Home Savings of America, all almost surely would have hesitated a couple of years ago. But now that housing prices are taking off again amid a sturdy economy, more Californians are seizing the opportunity to plow their housing equity into new and ongoing business ventures, in turn creating jobs and giving a substantial boost to the economy.

The rate of new business incorporations in the state has risen sharply in the last year, and so has the number of homeowners refinancing and taking out home equity loans or lines of credit. Because both trends reflect the healthy economy and consumer confidence, it is unclear how closely they are related; no one knows for sure how many homeowners use equity loans to form a business.

But a recent Federal Reserve Board study of consumers nationwide suggests that nearly one-fifth of equity borrowers use some part of the loan for business purposes, whether that may be to pay for business expenses or to finance a start-up. And the latest Census Bureau survey of U.S. business owners found that of those who borrowed money, 22% said they turned to a home mortgage or home equity line of credit.

“It’s an extremely common source of start-up money, probably among the top three sources along with plastic and savings,” said Jon Goodman, director of USC’s Annenberg Incubator Project, a program aimed at stimulating entrepreneurship.

In California, real estate equity has traditionally played a more important role in commerce because of the relatively high property values and the aggressive manner in which entrepreneurs and others have tended to borrow against their homes, which for decades had appreciated in value or held steady until the deep 1991-93 recession.

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David Tour and John Montgomery recently started Freida M, a contemporary women’s knitwear manufacturer in downtown Los Angeles, one of many new companies in the growing apparel industry. Montgomery, 28, a former designer at Rampage Clothing Co., and Tour, 39, who had previously operated a garment cutting business, obtained a $250,000 line of credit by putting up Tour’s Westwood house as collateral. Tour says the value of his house in the red-hot Westside has probably doubled in the last three years, to about $450,000.

Still, Tour admits that he feels “a little on edge” having put his home on the line. He knows that during the real estate collapse, many people not only lost their businesses but their houses as well. Yet he said: “If I didn’t feel confident in the business, I wouldn’t do it. I have a lot of faith in our company, in our designs and our sales.”

Even though some real estate brokers now strongly advise homeowners against tapping their homes for a new business venture, most business consultants and bankers disagree, saying that for entrepreneurs in search of capital, it’s hard to beat the ease and the terms of a home equity loan or line of credit.

“You don’t have to go through the third degree of getting a regular business loan, and the interest rate is better, and it’s tax-deductible,” said Jim Baker, vice president of California Business Investments, a business broker based in Tarzana that helped Hill buy Print Crafters.

In Hill’s refinancing case, his $75,000 loan came with an adjustable interest rate, currently at a little more than 6%, with a payback plan spread over 30 years. Traditional home equity loans typically carry a fixed interest rate and require repayment in monthly installments, whereas home equity lines typically have more flexible repayment schedules.

In either case, the interest rates are likely to be more favorable than credit cards, an increasingly popular source for small businesses, or a conventional business loan, which most new owners aren’t likely to get anyway. Most banks and even the popular Small Business Administration program generally won’t finance start-ups.

“For small-business owners, trying to get financing for the first couple of years is a challenge,” said Colin Walsh, vice president of Wells Fargo Bank in charge of home equity lending. For banks, he said, the risk of equity lending is actually very low, largely because borrowers most commonly use the money for home improvements and to consolidate debt. But even when including the 5% to 10% of home equity that goes toward small businesses, Walsh says, losses are extremely low, with less than half of 1% resulting in foreclosures.

Refinancing in California, like throughout the nation, rose dramatically in the early 1990s, peaking in 1993 when interest rates fell to their lowest level in more than 20 years. That, along with the recession, dampened the home equity lending activity. But home equity lending has been increasing since 1995, when housing prices in parts of the state started to climb back up and more nontraditional lenders became more aggressive in offering equity loans, even to homeowners without equity.

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So far this year, the pace of California lenders doing refinancings and home equity loans and lines of credit has picked up dramatically, according to Experian RES, a real estate research firm in Anaheim. Much of the equity lending growth is occurring in Orange and Los Angeles counties, where high-end houses especially have seen sharp increases this year in demand and price gains.

Nima Nattagh, an Experian economist, expects more homeowners in Southern California to tap into their properties as equity buildup continues. And that, in turn, is likely to give more budding entrepreneurs a means of starting their venture. “To the extent that it oils the wheels, the buoyancy in the housing market is definitely having a positive impact on small businesses,” he said.