Home Equity Line of Credit (HELOC) Considerations

Over the last year, there has been a dramatic decrease in the value of the housing market across the United States which in turn has lead to a higher risk for financial institutions. Because of this risk, institutions may consider reducing or suspending the home equity lines of credit (HELOC) for many borrowers. Before taking the steps to suspend or reduce the HELOC credit lines, the financial institutions should take the following into consideration:

• The Truth in Lending Act, Regulation Z, specifies the circumstances which lenders can suspend or reduce debt. Under this regulation, lenders are prohibited from changing the terms of HELOCs. However, they will be permitted to change the terms if the dwelling value declines significantly below the appraiser's value. The financial institution could obtain an appraisal or have other evidence to support a significant decline in value such as local tax assessments. The terms of the HELOC can also be changed if the there is a significant change in the borrower's financial circumstances. Under this circumstance, two conditions must be met. First their must be a "material change" in financial circumstances. Second, because of this change, the lendor must have "reasonable belief" the consumer will not be able to meet the obligations. The financial institutions should notify the borrowers within 3 business days of the changes.
• Some other actions that permit reductions under Regulation Z are:
• The borrower is in default of a material obligation under the agreement.
• The lender cannot impose the annual percentage rate provided in the agreement as a result of government action.
• The priority of the lender's security interest is adversely affected by government action to the extent the value of the security interest is less than 120 percent of the credit line.
• The lender is notified by its regulatory agency that continued advances constitute an unsafe or unsound practice.
• The FTC Act Section 5 considers whether the reductions or suspensions are violations.
• The Equal Credit Opportunity Act (Regulation B) and the Fair Housing Act. The lender should not consider race, sex, or other factors when considering reducing or suspending home equity lines of credit. Their policies should be consistently applied across the board.

These considerations should be considered by every financial institution before any reduction or suspension of a HELOC. Failure to remember these considerations could lead to potential liability for the financial institution. No matter how the housing market reacts, the proper steps need to be taken to effectively deal with it.

Source: Federal Deposit Insurance Company
Title: "Consumer Protection and Risk Management Considerations When Reducing or Suspending Home Equity Lines of Credit and Suggested Best Practices for Working with Borrowers"

http://www.fdic.gov/news/news/financial/2008/fil08058a.html