Many parts of the country are experiencing a downturn in the housing market. This has some serious implications for one of the most common methods of creating your own consolidation loan–taking out a home equity loan. The problem comes when you need to move and anyone interested in your house is only willing to pay much less than what you own on your mortgage and home equity loan.
For example: Lets say you buy a house for $150,000. After a few years it appreciates to $200,000 and your loan amount is down to $140,000. You could go to the bank and take out a loan against the equity for $60,000 to help consolidate your other debts. So you now owe $200,000 which is the total amount your house is worth. Now assume that several of the larger employers in the area go out of business–including yours. You locate another job halfway across the country and put your house on the market. Because everyone is trying to sell their house to move where there are jobs, there are many homes for sale and this drives the price down, so your home is now only worth $80,000 in the current market. To make matters worse many homes go into foreclosure and the bank is selling $150,000 homes for $40,000 trying to recoup some of their investment.
Even if you could sell your home for $100,000, you’d still owe another $100,000 that would be due when you close. Since the bank won’t turn over the title until they get their money, you effectively can’t sell your house unless you come up with $100,000.
In this situation you were able to consolidate your other debt using the equity of your house, but when the equity of your house is destroyed, it doesn’t leave you many other options. This is why it can be dangerous to use your home equity as a consolidation vehicle. Everyone wants to think of the equity in their house as money in the bank, but the truth is that a downward market can wipe out the equity. You should consider your equity as insurance that will allow you to sell your house even if the prices drop. Using it as a means of debt consolidation can leave you trapped with no way to sell your house and move to an area with more attractive jobs.
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