When a homeowner applies to refinance a property, he must first get permission from the second lien holder (i.e. the HELOC lender). In the past permission was taken for granted. But, due to troubled economic times, more banks are refusing permission or making additional requirements for borrowers.

ScrippsNews explains:

“A bank’s refusal to resubordinate can be costly to the homeowner. Caleb Shaffer has two mortgages on his duplex in Oakland, Calif. Both loans are with SunTrust. A credit union offered to refinance the primary mortgage at a lower rate, saving roughly $250 to $300 a month. Shaffer says he couldn’t go through with the refinance because SunTrust refused to resubordinate the second mortgage. SunTrust has received $5 billion in TARP funds from the federal government, or $34.13 for every working American.

Shaffer says he was told that he could refinance with SunTrust, but not with another lender. “They’re saying their policy is they don’t subordinate unless it’s within the family of SunTrust,” he says.”

If your HELOC lender is enforcing such policies, your refinancing options may be severely limited. If you’re considering refinancing in the future, think about applying now before more HELOC lenders adopt this method of securing your business indefinitely.

See Also:

Some HELOC Lenders Prohibiting First Mortgage Refinances

HELOC Freeze Help

While HELOC rates are currently low, some analysts believe that inflation will eventually lead to higher rates in the future. Should this scenario hold true, borrowers with fixed interest rates will have the advantage.

Consider this example from TheStreet.com:

“Rising rates aren’t bad news for all borrowers. If you hold a long-term fixed rate loan, higher rates won’t affect your payments. What’s more, rising inflation will reduce the value of your monthly payments. For example, an inflation rate of 4% reduces the value of a $2,000 monthly payment to $1,643 in today’s dollars over five years.

By contrast, borrowers with variable-rate debt suffer from rising rates. Say that you qualified for a 30-year 3/1-year ARM (an adjustable rate mortgage whose rate is fixed for three years and then adjusts annually) at a rate of 5.5%. Your payments for the first three years would be $1,135 a month on a $200,000 mortgage.

A one percentage point increase in rates will boost your payments to $1,255 — and a three percentage point increase in rates could leave you with a monthly mortgage payment of $1509. That’s an extra $374 you’ll need to come up with each month, assuming rates don’t climb even further.”

HELOC borrowers may have the short term advantage, while those with fixed-rate home equity loans win out in the end. If you’re a HELOC customer worried about the possibility of inflation-related rate increases, you could refinance to a traditional home equity loan.

Alternatively, you may want to use your low-interest HELOC now and convert the withdrawn amount to a fixed rate when the market begins to shift. Not all HELOC lenders offer the conversion feature, however, and it can be extremely difficult to accurately time rate increases.
See also:

Home Equity Loan vs. Home Equity Line of Credit

How Can This Happen?

When a borrower takes out a HELOC, the HELOC lender agrees to be subordinate to the first mortgage lender. In a nutshell: if the home must be foreclosed on the first mortgage lender will be paid first. The HELOC lender will be paid second, with any remaining money.

If a borrower chooses to refinance his first home loan, he must seek approval from the HELOC lender. The HELOC lender must agree to be placed subordinate (second-in-line) to the new loan. Prior to the housing decline, HELOC lender approvals were routine and almost always granted.

Now, some lenders have decided to decrease their undesirable HELOC lines by declining first mortgage refinances.

The Wall Street Journal reports:

“In some cases, homeowners who in the past would have been easily approved for a mortgage refinancing are finding that they can’t get their home-equity lender to give the go-ahead, which is required to complete the transaction. Others are being told by their home-equity lender that they need to reduce the size of their loan or line of credit.

Approvals from home-equity lenders used to be routine, particularly if the borrower wasn’t increasing the size of the mortgage as part of the transaction. But that’s no longer always the case — even in places where the housing market hasn’t been hit by huge price declines…

Many mortgage refinancings continue to go through without a hitch. But some homeowners who want to lower their rates or lock in a fixed-rate mortgage can’t, even if refinancing would save them money and put them in a better position to repay their loans.”

What Does This Mean for HELOC Customers?

Keep in mind that the majority of banks are not yet prohibiting first mortgage refinances. Those affected have three choices: they can stay in their current position, they can pay off their HELOC, or they can refinance their HELOC with a lender that allows first mortgage refinances. Finding a new HELOC lender can be very difficult right now.

There is no way to tell if these refinancing prohibitions will continue to spread to other lenders, much like the HELOC freezes we saw beginning in January. If you have a HELOC and a principle mortgage with a variable interest rate, you may want to refinance now. If your lender is not already prohibiting first mortgage refinances, it may choose to do so in the future.

See Also: What to Do if You’re Hit By the HELOC Freeze