Home equity lenders broaden the base with new HELOC and loan products

After a long hibernation, home equity lending is back in a big way.

Home equity loans and home equity lines of credit (HELOCs) are suddenly hot among people seeking five- and six-figure financing. In response, lenders have begun catering to new types of borrowers by letting business owners and property investors tap their home ownership stakes. They’re also getting creative with product features, such as draw periods, and even loosening criteria, like credit scores.

“Across the board, the industry is now opening up the underwriting standards, opening up the FICO box,” says Vishal Garg, CEO of online lender Better.com. For example, the minimum FICO score for a HELOC once was 680, but now it has drifted down to 620, he says. “We’re broadening the spectrum of consumers who can tap their equity.”

$299,000: Amount the average mortgage-holder had in home equity as of year-end 2023, up $25,000 from 2022  

Source: ICE Mortgage Technology  

Why home equity loans are popular now

A type of second mortgage, for which your home acts as collateral for a borrowed sum, home equity loans and HELOCs have been around for decades — blooming in the late 1980s, as real estate appreciated and tax reform kept their interest deductible. But they fell from favor during the housing market crash and Great Recession of 2007-09: Home values were shrinking, leaving homeowners with precious little equity to borrow against. In fact, some lenders even froze the credit lines of existing HELOCs, or called in the debt completely.

During the 2010s, mortgage rates were low enough that homeowners who needed to tap their equity simply did so with cash-out refinances. The Tax Cut and Jobs Act of 2017 dealt a further blow to home equity products, by reducing their tax advantage: Previously unlimited, the interest is now deductible only if you use the money to purchase, repair or substantially improve a home.

Things changed in 2022, as mortgage rates surged from their pandemic lows. As they spiked from less than 3 percent to more than 7 percent, cash-out refinances all but disappeared: Homeowners didn’t want to trade their super-low mortgages for new ones at much higher rates. So they began tapping their equity wealth through home equity loans and HELOCs instead.

Lenders noticed the new demand, and that’s what spurred this round of product innovation. “During periods of low mortgage volume, particularly a lack of refis, lenders are quite aggressive in going after home equity loan and HELOC business,” says Guy Cecala, executive chair of Inside Mortgage Finance Publications, a research and publishing firm. And “given the ongoing rise in home prices, most homeowners have plenty of equity to get a home equity loan.”

New types of home equity loans and HELOCs

Homeowners with equity stakes to tap plus lenders with a desire to drum up business equals new products on the market. Here are several examples of innovations in home equity products.

Innovation: Bank statement loans

One trend is gearing home equity financing towards business owners, entrepreneurs and other self-employed individuals, who — due to a quirk in the mortgage qualification process — often get rejected for loans, despite having sufficient means. Such applicants often lack the steady income required by standard underwriting. They also tend to use business expenses to offset as much taxable income as they can; but then, when they use their tax return to apply for financing, it often shows an income that’s too low to qualify.

“There’s just such a need in the market,” for products for these borrowers, says Tom Hutchens, executive vice president of production at Angel Oak Mortgage Solutions, a correspondent lender. “There’s an absolute gap.”

To fill that gap: bank statement home equity products, similar to bank statement loans, a longtime workaround for self-employed mortgage-seekers. RenoFi has begun offering bank statement home equity loans, while Angel Oak launched bank statement HELOCs in early 2024. Like the mortgage variety, these products let an applicant submit their bank and financial statements, instead of the usual tax returns, as proof of their income and net worth.

“Self-employed borrowers take advantage of the advantages they have tax-wise,” says Brian Powell, sales manager at RenoFi. “Through the bank statement analysis, you can see they have plenty of income to make the payments.”

Many entrepreneurs rely on credit card debt to finance their businesses, but a HELOC can provide a much cheaper form of financing, Hutchens says. “There’s record credit card debt, but at the same time there’s record home equity,” he notes. “We are seeing business owners who can’t get lines of credit for their business, and yet they’re sitting on all this equity in their homes.”

They should also be sitting on some solid financials. For its bank statement HELOC, whose credit line can be as high as $400,000, Angel Oak requires a minimum FICO score of 720, and carries rates in the range of 10 percent to 11 percent, a bit above the HELOC average of 8.89 percent in Bankrate’s latest weekly survey.

Similarly, at RenoFi, bank statement home equity loans carry a rate that’s a point or two higher than traditional home equity loans, Powell says.

Innovation: HELOCs for investment properties and second homes

In another new offering, Better Mortgage is among a small but growing cadre of lenders who let owners of investment properties and second homes tap their equity through HELOCs. Traditionally, lenders have limited home equity financing to primary residences.

“Most banks and other lenders don’t provide it,” Garg says. “But a lot of people have investor properties or second homes that they have a ton of equity in.”

Better also is touting quick approval times through what it’s marketing as its One Day HELOC program. As it does with mortgages, Better promises to decide on a HELOC application within 24 hours.

“Consumers are looking for access to their equity quickly,” Garg says. “Homeowners wait until they have a need – then the need is very pressing.”

Innovation: A home equity-HELOC hybrid

Homeowners looking to tap their stake through a home equity product have one of two options. With a home equity loan, you receive a lump sum. Say you’re renovating the kitchen for $30,000 – you borrow that amount, and then repay the amount at a fixed rate. A HELOC works differently: You’re approved for a certain amount that’s set up as a line of credit (similar to a credit card), and then you can draw against this line over a prolonged set period, usually five to 10 years. You then repay the loan at a variable rate afterwards.

In a new twist, peer-to-peer lender Prosper has begun offering a HELOC with a three-year draw — shorter than the traditional draw period — and a 27-year repayment period.

In general, home equity loans have slightly lower rates than HELOCs, partly because lenders view the HELOC draw period as more uncertain than the well-defined sum taken out in a home equity loan (HELOC borrowers can draw different amounts at different times, and only pay interest on what they actually withdraw). The more limited three-year draw “lets us bring the interest rate down,” says Pete Woodhouse, the company’s chief technology officer — more akin to HE Loan territory. Variable rates on the HELOCs with a three-year draw started at 8.4 percent as of mid-March, according to Prosper’s website.

$512 billion: The collective amount in outstanding home equity loans as of Q4 2023

Source: Board of Governors of the Federal Reserve System   

Final word on new flavors of home equity loans and HELOCs

The decade after the Great Recession was a period of super-low rates, and lenders mostly ignored home equity products. But when mortgage rates spiked in 2022 and 2023, HELOCs and home equity loans suddenly were in demand, and that has spurred lenders to get creative with offerings.

Will the demand and the innovations continue? Home equity loan and credit line originations did drop in late 2023, due to a rise in home equity rates — especially those of HELOCs, which spiked above 10 percent for a few months. But overall interest among equity-rich consumers remains robust, especially amid forecasts of rate declines throughout this year.

“With roughly 80 percent of mortgage holders locked into rates at or below 5 percent, lenders recognize that a significant portion of 2024 activity will be in home equity products,” says Andy Walden, vice president of enterprise research strategy at ICE, a mortgage technology company. And — if these new flavors loan and line of credit have enough appeal — with a broader base of borrowers, too.