My June 27, 2008 Bracing for the Big One entry regarding the lowering of credit limits for credit cards failed to mention that home equity lines of credit (HELOCs) are also under the knife. In response to the threat of credit line deductions, many Americans are doing the next best thing; taking out whatever balance is left on the HELOC and putting it into savings accounts. Fearing the real possibility that their credit lines won’t be there when they need it, some folks have realized that they do not have to sit idly by and watch the banks snatch back their credit lines, why not take the money now, just in case, as a way of propping up their emergency funds. By doing so, they are opting for higher principal and interest payments now in an effort to secure those funds and a little peace of mind.
During the housing boom, many took out HELOCs to fund home improvements and personal finance experts recommended using the HELOC as a source of emergency funds in lieu of actually saving the necessary 3-6 months living expenses. Saving 3-6 months expenses outright is a difficult task for most middle class Americans living paycheck to paycheck and HELOCs were a cheap available source of money. As the economy sours, many are worried about their jobs and their well-being and many have little or no savings.
The reduction in interest rates and the fact that interest payments are tax-deductible make HELOCs a very attractive loan source right now. However, most HELOCs have variable rates tied to the prime rate so if the Federal Reserve starts to raise rates to combat inflation then those payments will rise significantly. Taking another loan now to ward off the possibility of financial disaster may be the last resort that some people have but they must remember that defaulting on a HELOC can cost you your home.
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