A home equity loan—also known as an equity loan, home equity installment loan, or second mortgage—is a type of consumer debt. Home equity loans allow homeowners to borrow against the equity in their homes. The loan amount is based on the difference between the home’s current market value and the homeowner’s mortgage balance due. Because home equity loans require mortgage holders to put their house at risk if they default on the loan, these types of loan are relatively tightly regulated.
There are a number of laws that control the way that home equity loans are advertised, sold, and managed. Some of these are federal, and some operate at the state level. Every state in the U.S. has laws that apply to home equity loans in some way, and some states have gone much further than the federal government in seeking to control and limit these loans.
In this article, we’ll explain why states have sought to regulate home equity loans, the kind of rules they’ve put in place, and then look at a specific example: Texas.
- Home equity loans can be unsuitable for some borrowers, because they carry the risk of losing your house.
- There are many federal and state-level laws that apply to home equity loans. These cover many aspects of the way in which these loans are advertised, sold, and managed.
- State regulations in this area are constantly changing.
- If you think you’ve been mis-sold a home equity loan, you should file a complaint with the Consumer Financial Protection Bureau and/or the U.S. Department of Housing and Urban Development (HUD).
- If you think a lender has acted against the laws in your state, contact your state regulator or a local attorney.
State Laws on Home Equity Loans
For some borrowers, home equity loans can be a great way to access home equity. If you have a steady, reliable source of income and know that you will be able to repay the loan, low-interest rates and possible tax deductions make home equity loans a sensible choice.
There are some potential pitfalls with this type of loan, though. Home equity loans can seem an all-too-easy solution for a borrower who may have fallen into a perpetual cycle of spending, borrowing, spending, and sinking deeper into debt. Unfortunately, this scenario is so common that lenders have a term for it: reloading, which is basically the habit of taking out a loan in order to pay off existing debt and free up additional credit, which the borrower then uses to make additional purchases. There is also the potential for misleading borrowers who can be desperate for a fast source of cash to service their existing debt.
These dangers have led to relatively tight regulation on home equity loans. There are federal laws that apply to these loans, but many states have also sought to control them. Every state in the U.S. has laws that affect home equity loans in some ways, and these are constantly changing. There is, in fact, a multi-volume textbook published every year, “Pratt’s State Regulation of 2nd Mortgages & Home Equity Loans,” which gives an overview of these laws.
As this book states, state laws on home equity loans apply to almost every aspect of these loans. There are state-level laws that apply to second mortgages in all of these categories:
- Application Practices
- Bad Check Charges
- Balloon Payments
- Brokering Second Mortgage Loans
- Consumer Protection
- Credit Line/Revolving Credit Loans
- Fees and Charges
- Home Equity Loans
- Interest and Usury
- Late Charges
- Plain English
- Predatory Lending
- Prohibited Loan Terms
- Record Retention
- State Regulators
It’s important that lenders are aware of these rules, and follow them. For borrowers, they are only likely to become relevant if you think you have been mis-sold a home equity loan. However, in this case it’s best to consult an attorney, because state rules on what lenders can and can’t do are constantly changing.
State Laws on Home Equity Loans in Texas
An instructive example of just how detailed state laws can be when it comes to home equity loans is Texas. The state was the last in the U.S. to allow home equity loans – these became legal in 1997 – and they are regulated under a Texas Constitutional statute known as Section 50. This section of the constitution protects consumers from predatory lenders by dictating strict provisions under which lenders must operate, with serious penalties for non-adherence.
Section 50 regulates many aspects of the way that home equity loans work in Texas. It sets a state limit on the maximum amount homeowners can borrow, limits them to one loan, and requires that their lender perform a detailed process of due diligence to make sure the loan is responsible. There are also strict laws related to the way that home equity loans can be sold and advertised, and how their terms are explained to borrowers. These terms are also outlined in the Texas Home Equity Early Disclosure document, which must be given to borrowers who take out a home equity loan in the state.
Though Texas’ laws on home equity loans are unusually strict, the state is not unusual in having these laws. If you are considering a home equity loan, it’s worth researching the laws that are in place in your home state, because in most cases these are designed to protect borrowers against taking out loans they will find it difficult to pay back.
Does Reg Z Apply to Home Equity Loans?
Regulation Z is a federal law that standardizes how lenders convey the cost of borrowing to consumers. It also restricts certain lending practices and protects consumers from misleading lending practices. It applies to home mortgages, home equity lines of credit, reverse mortgages, credit cards, installment loans, and certain student loans.
How Does a Home Equity Loan Work?
A home equity loan is a loan for a set amount of money, repaid over a set period of time that uses the equity you have in your home as collateral for the loan. If you are unable to pay the loan back, you may lose your home to foreclosure.
Are There State Laws on Home Equity Loans?
The Bottom Line
Home equity loans can be unsuitable for some borrowers because they come with the risk of losing your house. There are many federal and state-level laws that apply to home equity loans. These cover many aspects of the way in which these loans are advertised, sold, and managed, and state regulations in this area are constantly changing.
If you think you’ve been mis-sold a home equity loan, you should first contact the Consumer Financial Protection Bureau or the U.S. Department of Housing and Urban Development (HUD). If you think a lender has acted against the laws in your state, contact your state regulator or a local attorney.