I often hear people say, “We’re going to take some money out of the house” when they get a home equity loan. That is exactly what banks and lenders want you to think you are doing, but it is totally and completely wrong. Let me explain.
Think back to when you got your first home loan. A woman in a pant suit probably put on an OSHA-approved back brace to hand you the 50 pounds of papers you signed. Those papers ostensibly said that if you were unable to pay back the mortgage, the bank would take your house away from you. This you happily agreed to, because, hey, it’s a house, and owning a house is good! A few years later, your house appreciated (that’s a fancy way of saying it’s worth more), and some banker convinced you that you need to “get some of that equity out” to use on cool things, like paying for your kids’ college, or building a new deck, or putting in a pool, or something. They probably said something like, “that’s a lot of money tied up in your house doing nothing — why not take advantage of it?” If you were ignorant, this probably sounded like a good idea.
That reminds me of a story. One time I went into a bank to get a letter notarized. The kind banker asked me if, in addition to the notary service, I wanted to also get a home equity loan. I responded, “Why would I want another loan when I’m working so hard to get rid of the one I have?!” She was surprised. Apparently most people take her up on her offer.
Anyway, back to why home equity loans are stupid. Let me make a point here. There is absolutely no way, none, zilch, whatsoever, of “taking money out of your house” without selling it. Let me say that again, you cannot get money out of your house unless you sell it. Period. Don’t believe me? Keep reading.
You need to get something clear if you are considering a home equity loan. When you get such a loan, what you are saying is this: Hey, my house is worth more than when I bought it. I should get another loan, and tell the bank (again) that they can take my house away if I can’t pay this loan back. That’s it. That’s all it is. You are getting another stinking loan, which the bank is happy to give you, because if you can’t pay it back, they’re going to take your house away and pay themselves back for both loans. It really is that simple. By getting a home equity loan, you are just handing over your house as collateral in exchange for another loan. This is a fantastic way to ensure that you will be in debt for the rest of your life. The bank would love for you to get a home equity loan every time you pay back a little bit of your last loan. Banks love loans.
Now you may be thinking this: But that’s my money. I paid down that first loan, and now I want my money back. Wrong! That was never your money. That was the bank’s money to begin with, and you were paying it back to them. They’re trying to trick you into thinking that it’s your money, and you can just “get some out,” as if your house was a gigantic ATM. But it’s not an ATM, because the money you used to buy it was not your’s. It was the bank’s. Remember, you borrowed it in the first place? How are you going to “take some of your money out” if you had to borrow it in the first place?
So the next time someone tells you they’re “going to take some equity out” of their house, you should probably say, “Don’t you mean you’re going to get another loan and give your house to the bank if you can’t pay it back?” They’ll probably get sick of your smug little smirk in a hurry, but, hey, sometimes the truth hurts.
But what about the tax shelter? If I pay off my home mortgage, I won’t get tax benefits. Quick, Mr. Banker, save me from the IRS! This is another big, fat myth, but that’s another story.