Smarter Money Management

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I’m a Seinfeld fan, and I’m reminded of the episode when George Costanza pushed an elderly woman, a clown and a room full of children out of his way so he could escape what he thought was a blazing fire. The clown ended up dousing the blaze with his big shoe. When you think of your home equity line of credit, you should be reminded of George. In an emergency, your home equity line of credit may be the first thing to leave the room.

A few weeks ago, the Wall Street Journal published an article about home equity lines of credit. The article described how some financial institutions were reducing the available credit on home equity lines for borrowers who were having financial trouble. My first reaction was to assure myself that such a fate would never befall me. I pay my mortgage and home equity line of credit on time each month. In fact, I’ve never had a late payment in the four years since I bought my current home, and I even pay the bills automatically from my checking account each month. But then I started to wonder what would happen if I lost my job and started paying some bills late. Would my mortgage company take away my available line of credit?

So I dug through my old files and pulled out my mortgage documents. On page 3 at the bottom of my home equity line of credit agreement, under a heading labeled “Possible Actions,” I found this eye-opener:

We may refuse to make additional extensions of credit or reduce your credit limit if:

• The value of the dwelling securing the line declines significantly below its appraised value for purposes of the line.
• We reasonably believe that you will not be able to meet the repayment requirements of the line due to a material change in your financial circumstances.

So if housing prices decline significantly, my mortgage company (which is a large, well known financial institution) can reduce my credit limit. And if I lose my job, the mortgage company may also be able to reduce my credit limit. In other words, if I hit on hard financial times, just like George, my home equity line of credit may be the first one out the door.

Now I don’t lie awake at night worrying about this, and I’m not suggesting you do, either. But as housing prices continue to fall and inflation moves higher, it’s worth spending some time evaluating just how you would handle a real financial crisis. How much do you rely on your home equity line of credit as an emergency fund? Do you know how much money you need each month to handle the necessities? And if you’re interested in my approach to an emergency fund, check out The Doomsday Fund: How Planning for the Worst Prepares You for the Best.