PERSON OF THE WEEK: Due to rapidly rising home prices, homeowners have amassed considerable home equity during the past year. And they are increasingly tapping into that equity for home improvements, including backyard sanctuaries.
The demand for home equity loans and lines of credit is likely to increase because many homeowners – following the pandemic’s lockdowns – who might otherwise have “moved up” now find themselves “trapped” due to rising prices and a lack of inventory. And as interest rates rise, home equity loans will become more attractive compared with refinancing.
As Omar Jordan, CEO and founder of LenderClose, tells MortgageOrb, now is the time for mortgage lenders to jump on the trend if they haven’t already.
Q: Why is now a great time for financial institutions to consider adding home equity loans to their offerings?
Jordan: As interest rates start to climb, consumers’ demand for home equity access will shift from refinancing their first mortgage, which is already at less than 3%, and pivot into second mortgages and home equity lines of credit for debt consolidation and/or cash out transactions.
More people who were stuck at home during the pandemic are making changes to their homes with home improvement projects. This is evident by the increase in demand for building materials which has been higher in the past 12 months than in years prior. People also spent a lot during the pandemic sending consumer debt to nearly an all-time high since the financial crisis of 2009. These are two of the primary reasons people get a home equity loan.
While people were increasing their debt, they were not spending cash last year. Community banks and credit unions saw checking and saving account balances increase dramatically. Financial institutions (FI) currently maintain record levels of cash on-hand and through home equity loans, they can increase profit margins. Throw in the real estate inventory shortage, which is the catalyst for rising home values, now is the perfect time for lenders to offer home equity loans.
Q: What do you think is behind the reluctance to take the plunge?
Jordan: Community lenders did not necessarily hold back on home equity lending. Consumer demand did. The low interest rate environment meant it was more attractive to refinance. While we have seen headlines that tout mega banks such as Wells Fargo, Chase and Citi halted their HELOC programs during the pandemic this past year, credit unions and community banks did continue to serve their members and customers to support their financial needs.
Q: What kind of lender should consider originating home equity loans?
Jordan: Every lender should consider it. It is about creating a relationship with customers. User experience is not just what the online banking software looks like. It is also how a customer feels when dealing with their financial institution. And mega banks with their one-size-fits-all policies, have made it much easier for community lenders to offer personalize solutions and generate more business.
Q: Why have home equity loans gotten a less than favorable reputation? What can lenders do to correct that?
Jordan: In the current environment or in the last 2 to 3 years, there have been a few contributing factors that made refinancing a first mortgage loan much more attractive than taking out a home equity second mortgage loan.
Interest rates have been at an all-time low. So naturally it makes sense to refinance one loan into a low interest rate and be able to accomplish certain goals such as cash out for debt consolidation and/or home improvement projects.
In 2018, a tax bill was passed, which prevented the tax deduction of mortgage interest unless the loan was used to buy, build, or substantially improve ones’ home. I believe this added a slight distaste for second lien equity borrowing from a consumer perspective.
Lastly, the TILA-RESPA Integrated Disclosures (TRID) guidelines, requiring closed-ended home equity loans to maintain the process of a closed-ended first mortgage refinance. This created some levels of what I see as “unnecessary” friction in the process for loan officers, processors and underwriters. I say “unnecessary” because internal lending policies at some if not most lenders have needed a re-fresh for years now.
Q: What is the most inefficient activity related to home equity loans and how can it be rectified?
Jordan: Lenders tend to create unnecessary policies and place process bottleneck requirements on top of the Dodd–Frank Wall Street Reform and Consumer Protection Act.
A great example here is the valuation. In 2010, the interagency appraisal and evaluation guidelines gave financial institutions the flexibility to use alternative sources of valuations instead of the traditional 1004 appraisal format for certain transaction amounts. Yet, we continue to see some levels of reluctance and a default to the status quo mindset of requiring an appraisal for a $50,000 or even a $10,000 home equity loan. It is completely unnecessary.
A 1004 or even a 2055 appraisal not only costs the financial institution and consumers money, but it also adds weeks to the process which makes the experience unattractive to borrowers.
I can walk into my bank or credit union right now and apply for a $5,000 unsecured personal loan. And walk out in 30 minutes with the money in my hand. But, if I give you my most valuable asset – my home – as collateral for the same $5,000, you are going to make me wait a few weeks? Something doesn’t seem right here.
The same applies for title insurance requirements. Again, totally unnecessary to acquire a title insurance policy on a second mortgage. Especially if the first mortgage is with the same financial institution. What are we trying to accomplish here? Isn’t the goal to ensure the lender will maintain its lien positions? A simple current owner title search and/or a lien protection policy should check that box.
The bottom line is that it is not the CFPB’s fault that a real estate or a home equity loan cycle is taking longer than we desire. Financial institutions have not invested the time to revisit their internal lending policies which is causing more harm than adding any level of risk tolerance in their favor.
Q: Where do you see home equity lending in the near future?
Jordan: The next year or two, maybe three years are the home equity and non-conforming loan origination years. As lenders realize having large amounts of cash on their balance sheets is not necessarily a good thing, and that it needs to be lent, we will start seeing a big push in non-conforming real estate and equity loan origination.
Additionally, consumer demand will start shifting toward these types of loans as interest rates start to climb, especially if originating a non-conforming loan shaves weeks off the underwriting process. Meaning, if FIs begin to get more aggressive on meeting their borrower expectations and redact the unnecessary requirements from their lending policies, they can allow for a better user experience on both sides, their staff and their borrowers.
Q. Do you think the GSEs will ever have a bigger appetite for home equity loans?
Jordan: Absolutely. GSEs have an obligation to their shareholders to continue generating revenue. As we start seeing a shift for non-conforming loan programs, GSEs will want to capitalize on this opportunity.
Q: What does it take to be successful in the Home Equity market?
Jordan: The answer here is simple: Pay attention to what is happening right now. Fintechs are counting on community lenders to maintain their status quo processes and policies. It is a limitless opportunity for Google Bank, or Apple Mortgage to start offering home equity loans. They have a much stronger relationship with their customers than any bank or credit union can dream of.
Also, pay attention to what your customers are doing. How are they shopping for homes? Groceries and now cars are being delivered to your front door without the need to go to the dealership. It does not take someone with PhD to see the changing trends in consumer behavior and expectations.
Question everything. Ask yourself: What are my customers’ expectations of how lending should be done? The problem I see with today’s real estate borrowers is that the vast majority do not really know any better. They have not read through Regulation Z or had their share of TILA and/or RESPA training. They expect a home equity loan or a first mortgage loan to take 30, 60 or 90 days, but not for long. Fintechs are working smarter than banks and credit unions to maximize this potential.