SEEING EQUITY IN YOUR HOME AS A GAME CHANGER
Erica Crohn Minchella
I spent the greater part of 2008 to 2015 defending foreclosures and working through short sales. It has forever skewed my view of what a mortgage should be. I am sure that my position is inconsistent with that of most financial advisors, as they would probably hold that the accumulation of wealth includes having a certain amount of debt, mortgages amongst them, and investing disposable income. The more I saw the effects of homeowners failing to invest in the capital in their homes, the more convinced I became that refinancing to lower monthly payments was a fool’s errand. While the financial advisor would advise the homeowner to take that difference and invest it, my position is that one should not refinance in the first place.
If one were to look at an amortization schedule of a loan, one would see (1) how much of each payment goes toward principal; (2) how much of each payment goes toward interest; (3) that with each payment, the amount one pays in principal increases while the amount one pays in interest decreases. And that is a good thing because over time, the principal gets paid down more and more. But if a borrower refinances, that process starts all over again. Refinancing requires a borrower to pay higher costs at the beginning of the amortization schedule, which in turn sets the borrower back on creating equity in his or her property.
But, why would one want equity in their property? First and most importantly, equity in property gives the borrower greater control. Let’s say the borrower is forced to relocate and is forced to sell the property. As a rule of thumb, when one sells their property, one usually pays close to 10% of the sale price in costs (broker’s commission, title costs, tax prorations, transfer taxes, attorney’s fees, etc.). If a borrower does not have 10% equity in the property at any given time and were forced to sell the property, would the borrower have to come up with cash to close? And that begs the question – does a given borrower know how much his or her property is worth in this market? As I write this there is considerable demand for properties and that is pushing property values up. But what if a borrower needed to move in December? What will his or her property be worth then? What will the borrower’s equity cushion be?
What if a borrower has a second mortgage? In 2009–2015, we watched the banks which had encouraged us to take Home Equity Lines of Credit (HELOCs) – literally pushing them into our hands if we could fog a mirror – suddenly close those same lines of credit, and then starting in 2015 began suing or foreclosing on those HELOCS as they came due because the lenders deemed themselves insecure. For those borrowers who had equity in their properties and could get ahead of the notices that the HELOCs would not be renewed, those loans were paid before the lender could foreclose and ruin the borrowers’ credit, making it impossible to refinance.
Foreclosures can happen to anyone. It only takes one small nudge to push someone over the tipping point – a loss of job, an illness, a death, a birth, a divorce – and suddenly three payments get missed and a lender accelerates the loan, requiring all arrearages and fees to be paid immediately. And more often than not, when that happens, the borrower ends up as a defendant in a foreclosure action. If you have equity, you can sell and protect your credit. If you do not, you are beholden to your lender to let you out of your loan or give you a modification (which I refer to as “kicking the can down the road”).
If a mortgagor adds one payment to his or her mortgage each year (by paying every other week instead of monthly), he or she can reduce a 30-year mortgage to 23 years. If a mortgagor disciplines him or herself to pay a little more than necessary on the mortgage each month and then has a rough month (like April 2020!), the worst that happens is that the mortgagor makes his or her regular mortgage payment. If a mortgagor creates equity in your property, then the mortgagor can choose how to deal with his or her own property; – the lender is no longer in as much control over those decisions. Who would you prefer to make decisions about your property? My recommendation is that you create equity and always maintain your control.
Content provided by Women Belong member Erica Minchella