Tax Reform and Home Equity Loans

photo by Kalmia

MortgageLoan.com quoted me in Tax Reform Just Made Home Equity Loans A Lot Less Attractive. It reads, in part,

Home equity loans have long been attractive ways for homeowners to borrow money to pay for everything from major home improvements to a child’s college education. But these loans just lost a major benefit: When filing their income taxes, homeowners can no longer deduct the interest they pay on home equity loans each year.

This might make these loans less popular. The loss of the interest deduction might persuade homeowners to look for other ways to tap the money in their homes.

“From what I see, there are very limited times that home equity loans would still come in as a benefit,” said Tristan Ahumada, a real estate agent with Keller Williams Realty in Westlake Village, California.

A rush to pay off home equity loans?

And she’s not alone. Donald Daly, managing partner of REIS Group LLC in New York City and a licensed real estate appraiser, said that since January 1 he has seen a higher level of requests for appraisals from homeowners seeking to refinance their existing mortgage loans. Many of these owners are doing this as a way of paying off their Home Equity Lines of Credit, a form of home equity loan.

The reason? These lines of credit, better known as HELOCs, are not nearly as attractive to homeowners when they don’t come with the bonus of a tax deduction.

“We fully expect this trend to grow over the next weeks and months as more and more homeowners learn of the effect these changes will have on their personal finances,” Daly said.

Goodbye, deduction

In the past, homeowners who took out home equity loans or HELOCs could deduct the interest they paid on up to $100,000 of these loans. If you took out a home equity loan for $50,000, then, you could deduct all the interest you paid during the year on that loan. If you took out a home equity loan for $150,000, you could deduct the interest you paid on the first $100,000 of that loan.

When Congress in December of last year signed the Tax Cuts and Jobs Act into law, this all changed. The big tax reform legislation eliminates the home equity loan deduction starting in 2018. You can still claim your tax deduction when you file your income taxes in April of this year. That’s because you’re paying taxes from 2017.

But you won’t be able to claim the home equity loan deduction when you file on your 2018 taxes and beyond. Most of the tax cuts impacting taxpayers, including the home equity deduction rules, are scheduled to expire after 2025. No one knows, though, whether Congress will vote to continue them past that date once that year rolls around.

Existing loans aren’t grandfathered in, either. If you took out a home equity loan in 2016 and you’re still paying it off this year, you won’t be able to deduct any interest you pay on it in 2018, even if you’ve already deducted interest payments in the past.

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Home equity loans can still work, though

Just because the tax benefits of home equity loans are disappearing, though, doesn’t mean that these loans are no longer a viable option for all homeowners.

The deduction was a benefit, but the biggest advantage of home equity loans is that they are a relatively cheap way to borrow money. The mortgage rates attached to home equity loans tend to be low. That isn’t changing.

So if you do have equity in your home and you want money to help pay, say, for your children’s college tuition, a home equity loan or HELOC might still be a smart move.

“While tax deductions are important, they are not the only reason we take out home equity loans,” said David Reiss, professor law at Brooklyn Law School in Brooklyn, New York.

Reiss said that when considering whether a home equity loan or HELOC is right for them, homeowners need to ask several important questions.

First, why do they want to take out the loan? If it’s for home improvements or to reduce high-interest-rate debt, the loan might still be worthwhile, even with the tax changes.

Next, homeowners need to look at their monthly budgets to determine if they can afford the payments that come with these loans. Finally, homeowners should consider whether they can borrow money cheaper somewhere else, taking the loss of the deduction into consideration.

“If you are comfortable with your answers, there is no reason not to consider a home equity loan as a financing option,” Reiss said.

The FHA Rollback’s Impact on Homebuyers

MortgageLoan.com quoted me in How Will Killing FHA Insurance Rollback Affect Borrowers? It opens,

Less than an hour after being sworn in as president, Donald Trump signed his first executive order, eliminating a drop in FHA mortgage insurance premiums that was to take effect a week later.

If the rate reduction had stayed in place, the average borrower with a $200,000 mortgage backed by the Federal Housing Administration would have had their mortgage insurance drop by about $500 per year.

The National Association of Realtors estimates that 750,000 to 850,000 homebuyers will face higher costs, and 30,000 to 40,000 new homebuyers will be left on the sidelines in 2017 without the cut.

The FHA doesn’t issue home loans, but insures mortgages and collects fees from borrowers to pay lenders if a homeowner defaults on the loan. The FHA guarantees about 18 percent of all mortgages across the country.

They’re most often used by lower-income, first-time homebuyers, sometimes with low credit scores. The FHA-backed loans require low down payments of 3.5 percent, and allow people with high debt ratios to buy a home.

With mortgage rates rising recently, the Obama administration announced on Jan. 9 a reduction in annual premiums for mortgage insurance for FHA loans from 0.85 percent to 0.60 percent of the loan balance, effective Jan. 27. The premiums are paid monthly.

Some Buyers Lower Expectations

The quarter of a percentage point drop didn’t go into effect because Trump ordered it eliminated. Still, some FHA borrowers were expecting the price drop and budgeting for it in the homes they shopped for, says Joseph Murphy, a Coldwell Banker real estate agent in Bradenton, FL.

Murphy says he’s had a few FHA clients lower their purchasing power with the elimination of the mortgage insurance cut, with one pulling out of buying a $135,000 home and instead dropping down to a $125,000 home because the FHA policy wasn’t changed to give them more money. Another client had to drop from a $200,000 home to a $190,000 one, he says.

“It’s not a big difference,” Murphy says. “But it’s enough of a difference. It’s demoralizing for some customers.”

In some neighborhoods he works with, it’s the difference between a barely hospitable home and a home in a better area.

Impact Disputed

It’s incorrect to say that Trump’s order raised mortgage bills, because it hadn’t taken effect yet anyway when the new president signed it, says Robyn Porter, a Realtor at W.C. & A.N. Miller in Bethesda, Md.

“The FHA insurance rate cut that was recently eliminated should have no impact on buyers,” Porter says. “In fact, the current insurance rates were established under the Obama administration and were the highest rates in more than 10 years.

“So, when Trump eliminated the reduction, they were simply put back to the same rate they had been for years ever since the Obama administration added them in,” she says.

Borrowers with low incomes, middle-of-the-road credit scores or have less than a 20 percent down payment are the main users of FHA loans. “These are typically more at-risk buyers for default,” Murphy says.

“Anything that makes access to money more expensive is going to have an impact, especially for fringe buyers,” he says.

Wealthier buyers either don’t qualify for the program or can bet a better loan rate on a conventional loan if they have good credit.

While it’s a great program for people who need it, not getting a $500 or so cut in FHA mortgage insurance shouldn’t affect buyers, Porter says.

“This is not going to deter somebody from buying a house,” she says.

Not getting a monthly mortgage insurance break of $50 or so per month shouldn’t be the difference in buying a home, she says.

“If that is going to break your bank, you shouldn’t be buying a home,” Porter says.

The overall impact may not be much, but even keeping the FHA rates where they were tends to make borrowing more expensive, increase housing prices and could drive some people away from buying a home, says David Reiss, who teaches about residential real estate at Brooklyn Law School.

“Everything has a marginal impact,” Reiss says.

“The more general point, though, is that FHA premiums have gone up significantly since the beginning of the financial crisis,” he says. “The Trump administration will need to think through the extent to which it wants to support homeownership and how it would do so.”

Mortgage Moves in 2017

MortgageLoan.com quoted me in Three Mortgage Moves o Consider in 2017. It opens,

How much do you think about your mortgage? Probably not much at all.

But financial professionals say that homeowners can save money, lower the amount of interest they pay each year and maybe free up some extra cash, all by tweaking their mortgages, whether they are paying off a conventional loan, FHA mortgage or VA loan.

If you’ve gotten into the habit of ignoring your mortgage, it’s time to take a look at what is probably your biggest financial obligation. Here are three suggestions from mortgage lenders and financial pros to use your mortgage to better your finances in 2017.

Going Short-Term

Are you paying off a 30-year, fixed-rate mortgage? It might be time to refinance that loan, not for the benefit of lower interest rates but to turn your mortgage into one with a shorter term.

Turning your loan from a 30-year version to a 15-year one will result in a higher monthly mortgage payment. But you’ll also dramatically reduce the amount of interest you’ll have to pay over the life of your loan. Mortgage rates with 15-year, fixed-rate loans are lower than the ones attached to longer-term loans, too.

“Going shorter term is a big financial benefit,” said Jason Zimmer, president of Lockport, Illinois-based Parlay Mortgage. “The 15-year loan is where you want to go. You can save so much money.”

Look at the financial difference: Say you are paying off a 30-year, fixed-rate mortgage of $250,000 at an interest rate of 4.09 percent. Your monthly payment, not including property taxes or insurance, will be about $1,200. But you’ll pay a total of $184,000 in interest if you take the entire 30 years to pay off your loan.

But say you now owe $225,000 on that same loan. If you refinance that amount to a 15-year, fixed-rate mortgage with an interest rate of 3.33 percent, your monthly payment, not including taxes and insurance, will jump to just under $1,600. But if you take the full 15 years to pay off this loan, you’ll only pay about $61,000 in interest, a huge savings from that 30-year loan.

“Lots of people don’t consider a 15-year, fixed-rate mortgage for a refinance because they knew they could not afford one when they bought their house in the first place,” said David Reiss, professor of law at Brooklyn Law School in New York City. “But if you have had your house for more than a couple of years, and your income has increased in the interim, refinancing into a 15-year, fixed-rate mortgage can be a great way to get a lower interest rate and pay a lot less interest in the long run.”