Home equity loan and refinancing scams can cost you more than money–these scams can cost you your house.
Refinancing a mortgage to a lower interest rate can make sense for some homeowners. So too can taking out a home equity loan against the value you’ve built up, perhaps to finance a kitchen remodel or pay Junior’s college tuition. What doesn’t make sense is losing your home because you fall for home equity loan and refinancing scams such as loan flipping and equity stripping. Although scam artists can be very convincing, homeowners who know what to look out for are less likely to become victims.
Loan flipping is a scam targeted at homeowners looking to get money back when they refinance a mortgage. This is often referred to as a cash-out refi. Scammers take advantage of this desire to tap the equity in a home to pay for things the homeowner couldn’t otherwise afford.
A cash-out refi in itself isn’t a scam. For some, it’s a smart way (http://www.houselogic.com/articles/a-guide-to-equity-loan-options/) to borrow. What is a scam is when a lender, after receiving a few payments, comes back to you with an offer of another refinance, this time to fund a vacation or a new car. The easy money is difficult for some homeowners to turn down.
Many borrowers don’t realize how much they’re paying in fees to refinance. The U.S. Federal Reserve estimates the settlement costs on a typical refi to be 3% to 6% of the loan amount. Loan flippers often charge much more, plus they may quietly roll the settlement costs into the loan to disguise the total charges. Take a day or two to get quotes from several lenders and compare terms.
Loan flipping ultimately leaves you with more debt and more years that you’ll owe on that debt. When the equity finally dries up, you might not be able to afford your higher monthly payments and another refinancing will be impossible. You could be forced to sell your home.
Equity stripping can occur in several ways, but at its heart is a scam artist who gains ownership of your home, borrows against it or sells it, pockets the proceeds, and disappears. You’re often left with a hefty mortgage balance and no place to live.
A telling sign of equity stripping is a lender that offers more loan than you can afford or that encourages you to pad your income on a loan application. Homeowners with low incomes but a good amount of equity built up are prime targets because they otherwise would have a hard time borrowing. According to the U.S. Federal Trade Commission, a lender that’s pushing a home loan with too-high monthly payments is likely counting of foreclosing on the property when you fall behind.
A variation on equity stripping has a scam artist talking you into selling your home at a discount or signing over the deed, perhaps with a promise of securing better loan terms if your name isn’t on it. The scammer promises to let you stay in the home as a renter until the refinancing is finalized, then you can buy back the home. In reality, the scam artist drains equity by borrowing against the house or selling the house, perhaps after evicting you.
According to Consumers Union, don’t agree to a home equity loan if you can’t afford it. A good rule of thumb: Your combined home loan payments shouldn’t exceed 28% of your gross income. The nonprofit publisher of Consumer Reports magazine also warns against signing any documents unless you understand them and turning over you property to anyone without first consulting a trusted adviser.
Watch out for unsolicited offers to refinance from companies claiming government affiliations. In particular, don’t be fooled by the use of official-sounding acronyms like “TARP” or official-looking website addresses. Scammers use these to gain your trust. Once they do, they’ll likely try to charge you for access to government assistance. Worse, they might extract enough personal information to commit identity theft.
You never need to pay to find out about legitimate government programs. A housing counselor (http://portal.hud.gov/portal/page/portal/HUD/i_want_to/talk_to_a_housing_counselor) approved by the U.S. Department of Housing and Urban Development can point you in the right direction. For federal refinancing (http://www.houselogic.com/articles/making-home-affordable-refinance-option/) and loan modification (http://www.houselogic.com/articles/making-home-affordable-modification-option/) help, check out the Making Home Affordable (http://www.makinghomeaffordable.gov/) program.
New disclosure rules make spotting scams easier
Many unscrupulous lenders have relied on confusing paperwork to dupe borrowers into paying excessive upfront fees on loans. Others would pull last-minute rate switches at closing. Still others would disguise prepayment penalties, which can prove costly if you ever try to refinance again or retire a loan early.
Balloon payments, which come due at the end of a loan term, can also catch borrowers off-guard. A lender may offer a low monthly payment on an equity loan, but only because the payment is interest-only. The principal is due in one lump sum. Surprised homeowners must scramble to refinance again, tap other assets, or sell.
Disclosure rules (http://www.hud.gov/offices/hsg/ramh/res/respa_hm.cfm) that went into effect Jan. 1, 2010, make spotting these types of deceptions easier. All lenders are required to use redesigned Good Faith Estimate (http://www.hud.gov/offices/hsg/ramh/res/gfestimate.pdf) and HUD-1 Settlement Statement (http://www.hud.gov/offices/hsg/ramh/res/hud1.pdf) forms that clearly disclose key loan terms–including interest rates, prepayment penalties, and balloon payments–and closing costs.
The GFE is an estimate of loan terms and closing costs, while the HUD-1 is a final accounting of terms and costs. The redesigned forms, cross-referenced by line number, must be used for mortgage refinancing and home equity loans (with the exception of home equity lines of credit (http://www.houselogic.com/articles/when-heloc-right-choice/), or HELOCs). The only fee a lender is allowed to collect to issue a GFE is a charge for a credit report, which averages $37.
If you don’t receive the new forms, don’t do business with the lender. If the estimates on the GFE don’t match the final figures on the HUD-1, ask why. Some, but not all, fees are allowed to increase within a fixed range.
Donna Fuscaldo has written about personal finance for Dow Jones, the Wall Street Journal, and Fox Business News for more than a decade. Like many homeowners, her mortgage is precariously close to being underwater.