2 Reasons to Avoid a No-Equity Loan

A no-equity loan is a loan that does not consider the equity in your home when identifying qualification standards. Some of the most common loans are the 125 percent loan-to-value (LTV), home equity line of credit (HELOC), or signature loan. The problem with these loan options is that borrowers are still unprepared to handle the mortgages. No-equity loans should not only be avoided but regulations should be written to tighten oversight standards for lenders that make these types of loans available.

Risks Associated with No-Equity Loans

One reason that no-equity loans should be avoided is that individual borrowers are simply not responsible enough to handle the risks associated with these loans. A borrower sees a no-equity loan as a chance to get their payments down without regard to any collateral or security requirement. The problem is that many borrowers still do not budget for their lifestyle. So, the loan is extended, over its established value, and the borrower does not make sufficient life changes to be able to sustain the mortgage.

Borrowers need to learn how to better manage debt and learn how to borrow responsibly. No-equity loans represent a bridge to the past irresponsible lending practices and provide nothing but a potential for worsening the credit and lending crisis.

Foreclosure and the Ripple Effects

The potential for foreclosure, or loss of the primary residence, is a very big con with these types of programs. As the loan moves toward default status because of the over leveraging that the borrower is facing, the lender will move to seize the home and any other asset necessary to satisfy the loan.

The loss is a marked one for both the lender and borrower.  The borrower loses his home and the lender owns a property that does not have resale value. The lender will have to take a loss when trying to sell the property. A lender will try to offset the additional risk with high closing costs and rates, but in the end, everyone will lose.

If a foreclosure should arise, the lender and borrower are not the only ones to suffer. Typically, the neighbors and local community will also suffer a loss of property value when there is a foreclosure on the market. If there is a foreclosure for sale in the neighborhood, the property value of the other homes in the area are affected by the reduced sales price, leaving their homes worth less money.

Additionally, taxpayers suffer the cost. Recent legislation has required that the government issue money to banks so that they can remain open. The money is provided with taxpayer dollars. As long as programs like this exist, the risk is out there and taxpayers will have to suffer the consequences.