Home Equity is Not an Emergency Fund and Other Lessons
Back in 2006, when I bought my new house and sold my old house, I learned some valuable lessons about emergency funds and home buying and selling.
I bought a brand new house from a home builder that year. It was really nice, but of course expensive. It was also great because I didn't have to sell my old house first (they did something where they assumed you rented out your old house so you basically have no net payment on it if for some reason you weren't able to sell). Today, that would never fly. The builder used Countrywide Financial (failed in the Great Recession and taken over by Bank of America) to originate a 70% first mortgage that was interest only for the first 10 years, after which the payment stepped up in years 11 - 30 and a second mortgage home equity line of credit for 20% of the purchase price of the new house that was also interest only and matured in 10 years. Yes, it was the "good old days" of the housing bubble. The 10% cash down payment actually came from a home equity line of credit on my old house, so I had no cash in the new house - it was 100% financed and all my cash was tied up in the sale of my old house. That would also not fly in today's lending environment.
Selling my old house was a white knuckle experience for sure, since I was doing it after I had bought my new house (I didn't want to move twice) and also considering all of this was happening:
My real estate agent didn't want to work with me (she actually pulled her sign from my yard after we got into a disagreement)
My agent refused to show the house, so I ended up having to do it myself and actually met with the buyer in my living room one evening to go over their offer (they really wanted the house and fortunately their agent was a little more level headed and made the deal happen)
The Great Recession and real estate crash were right around the corner - the house closed in July 2006; subprime loan problems started to show up in the fourth quarter of 2006 and things began to snowball after that with subprime lender failures throughout 2007 and 2008, culminating with the bankruptcy of Lehman Brothers in September 2008
The buyer needed a subprime loan at 100% loan to value to buy the house - it was probably one of the last loans New Century Financial did before they went under in April 2007 (they stopped accepting loan applications one month earlier)
After I miraculously closed on the sale of my old house, I used the proceeds remaining after paying off all the loans to pay off the home equity line on the new house, thereby making it available for future use and getting my monthly payment down to something I could handle. Since I had used all of my available cash from the sale of my old house to pay off the equity line, I had no "emergency fund" at that time. However, I did have the home equity line of credit available with no draws on it, which I figured would be a perfect emergency fund.
What I didn't count on was less than two years later, the value of my property took a 30%+ hit and the bank shortly thereafter sent me a letter letting me know they were suspending draw privileges on the home equity line. There went my emergency fund. Thankfully, I was able to build a real cash emergency fund back up over time. Also, I was able to refinance the interest only mortgage for a lower payment with a traditional 30 year fixed loan before the loan adjusted in 2016 when interest rates were much lower, which was also a big relief.
So, lessons learned:
Don't buy more house than you can afford with a conventional mortgage; bigger is not better, it's only more expensive
Sell your old house before buying a new one; don't worry if you have to move twice, the cost and inconvenience is minor compared to having two mortgages
Emergency funds should be held in cash in a bank account or in Treasury Bills
Home equity credit lines are not good for emergency funds because banks can shut them down at their discretion if something happens to the value of your home
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