Uses of Home Equity

The discretionary extraction of home equity accounted for 80 percent of the increase in mortgage debt since 1990, according to Sources and Uses of Equity Extracted from Homes, authored by James Kennedy and former Fed Chairman Alan Greenspan. The analysis was prepared in order to generate discussion and critical comments.

Much of the proceeds from cashout transactions was used to pay credit card debt, the report said. Revolving debt may have been used as short-term financing for personal consumption expenditures.

Borrowers that extracted equity through home equity lines-of-credit spent about one-third of the proceeds each on personal expenditures, home improvements and debt consolidation, the authors wrote. But borrowers who obtained cashout through closed-end mortgages used about half the proceeds on non-mortgage debt.

Home equity loans outstanding have reportedly risen from $0.2 trillion in 1991 to $1.0 trillion in the third quarter 2006. Closed-end loans accounted for $0.3 trillion of 2006’s number while HELOCs accounted for $0.7 trillion.

Closing costs on HELOCs have dropped from 1.71 percent of the loan amount in 1988 to 0.41 percent in 2004, the data indicated.

About 13 percent of refinance production from 1991 to 2005 was cashout, the report said. Tumbling from a peak of $3.0 trillion in 2003, refinance originations totaled $1.6 trillion in 2005. Of that figure, net cash pulled out was $0.2 trillion.

For home sellers, 82 percent of their available proceeds was used for a down payment on their next home purchase, the authors said.

One interesting trend noted in the analysis was that while more than 70 percent of home value was available in home equity during 1960, that figure dropped to below 55 percent in 2005. At the same time, mortgages — which encumbered less than 30 percent of home value in 1960 — represented more than 45 percent of home value in 2005.