Equity lines included in B/L ratio?

Most of my clients don't have a house yet or little equity, so I don't see many equity lines.

Just had a mortgage reported as REVOLVING and you can imagine what happened to the scores and B/L ratio.

So I suppose your home equity lines would all count for the ratio since they are revolving accounts. A client considered getting an equity line to finance his new bike, but it seems like that wouldn't be a good idea as his B/L would go way up.

Am I correct with my assumptions?

Hi Christine
I recently received a heloc. It is being reported as revolving and my equifax score dropped 28 points.

#1 reason code:
The proportion of balances to credit limits on your revolving/charge accounts is too high

I guess this answers your question...

Yes, thanks! Of course I got another question now:

What was your B/L ratio before and after?

Originally posted by Christine
Yes, thanks! Of course I got another question now:

What was your B/L ratio before and after?

B/L before was 18%
B/L AFTER now 62%

I was denied a sears c/l increase because my balances are too high. I only have two small balances on two other credit cards and explained this to them. They told me the heloc was being included in the equasion.

Yeah, that makes a HUGE difference! So you have damages.

I'm still trying to figure out how exactly to sue Fair Isaac, it's not the credit legislation. It's the type of thing like when someone totals your car while it's parked in front of your house.

You've done nothing wrong except making the *mistake* of getting a REVOLVING instead of an INSTALLMENT loan.

If you have some spare time, get some of that info from Sears in writing. WHY they include that equity loan, and what would happen if you refinanced into an installment loan.

And whether they use Fair Isaac's credit scoring software or their own.

Sears uses their own credit scoring models. They have a significant staff in Chicago that develops them. It doesn't matter, really, because pretty much every scoring model treats HELOCs as revolving accounts and includes them in B/L ratios.

And empirically, they are riskier than home equity loans. It's easy to see why. If you get an installment loan, the interest rate and payment are fixed. As long as your income doesn't drop, then if you can afford it the loan payment today then you can probably afford it tomorrow. But HELOCs have variable interest rates and variable payments. If you charge more to your credit line, or interest rates go up, you may not be able to afford to pay. So people with HELOCs are riskier than people with home equity loans, and it's reflected in their scores.

The other factor at work is that scores piggyback off underwriting. If the HELOC line they gave you isn't that much larger than the amount of money you wanted to use (so that your HELOC B/L is 70%, say) then the implication is that the HELOC lender determined you were too close to your debt capacity to give you a larger credit line.

To minimize the impact, make sure your HELOC line is much larger (at least 2.5 times) than you need for whatever you want to buy with it. If no one will give you a HELOC line that big, then it means you should probably pick an installment loan instead.

You're right in some respects, but a couple comments:

1) HELOC - does that stand for Home Equity Line Of Credit?

If yes, would it be reasonable to assume the LIMIT would be limited by your EQUITY and has nothing to do with what you qualify for?

2) "And empirically, they are riskier than home equity loans. It's easy to see why. If you get an installment loan, the interest rate and payment are fixed. As long as your income doesn't drop, then if you can afford it the loan payment today then you can probably afford it tomorrow. But HELOCs have variable interest rates and variable payments. If you charge more to your credit line, or interest rates go up, you may not be able to afford to pay. So people with HELOCs are riskier than people with home equity loans, and it's reflected in their scores."

Helocs may be riskier, and that's just FINE by me. Let's put on the HELOC application and on the loan disclosure:

"This loan is a REVOLVING loan and accepting this loan will lower your credit scores because empirically, you are risikier than if you get a home equity loan."

Well, this doesn't make much sense, just about ALL home equity loans ARE revolving. [update 12/8/04: Most 2nd mortgages INSTALLMENT loans are usually HIGH rate for people with BAD credit, but the majority are revolving HELOCs]

Scores can deduct points for HELOCS like they do for FINANCE company accounts, butI really don't think it's appropriate to include them in the B/L ratio.

3) Who is smarter:

Borrower A gets a $100,000 equity line at 10% and will utilize the loan occasionally for big ticket purchases and investments. Average annual debt $50,000

Annual interest: $5,000

Borrower B gets a $100,000 installment loan at 8% and puts $100,000 in the bank at 1% interest to do the same thing.

Annual cost: about $7,500

What would you do?

HELOCs are home equity lines of credit. The credit limit is a function of both your equity (usually the maximum is a combined loan-to-value of 100%) and your credit. A lender may not give you a credit limit equal to your equity if your credit is not good enough.

I don't know how you could have lenders put credit score warnings on their loan applications, since they don't in most cases know how the score works or whether the loan would make scores worse or better. When lenders try to advise their customers about scores, they often get the basic facts wrong.

No, most home equity loans are installment loans, not revolving lines of credit.

Anyway, whether it seems right or not, it's important to realize that a HELOC is going to make your score lower than if you get a HEL of the same amount. Most home equity lenders make things worse by requiring a minimum initial draw-down that pushes the B/L to 80% or worse.

Who is smarter in your example depends on whether a 30 point score drop matters. If you've got a score of 800, you might as well get a home equity line of credit. If you've got a score of 630, maybe not.