History of Home Equity
Home equity loans have been around for nearly a century, offering borrowers a way to cover larger expenses like home repairs, medical bills, and debt consolidation. Despite their long history, however, the popularity of these loans has waxed and waned over the past few decades. They have also evolved over the years to meet the needs of consumers looking for more flexible ways to borrow against their home.
Here’s a look at the history of home equity lending, including its rise to mainstream use in the 1980s, its role in creating the Great Recession, and its sudden demise at the onset of the COVID-19 pandemic.
The central theses
- Home equity loans have been around since the Great Depression, although originally they were used primarily as a last resort for low-income borrowers with few other alternatives.
- The 1986 Tax Reform Act helped boost home equity lending by removing the tax deduction for interest paid on non-mortgage debt.
- Home equity loans continued to prosper in the 1990s and early 2000s when major banks ran large marketing campaigns touting them as an easy way to turn your equity into cash.
- The Great Recession of 2008 put a damper on their use and the COVID-19 pandemic has limited access to them, but they remain popular.
Originally for the less creditworthy
Home equity loans, which allow homeowners to convert their home equity into cash, have been around since the Great Depression, although initially they were relatively uncommon. Lenders were primarily consumer finance companies and specialty secondary mortgage companies, with custodians accounting for only about two-fifths of loans made. Economic conditions left many property owners, particularly farmers, at risk of foreclosure, and as sources of credit were hard to find, credit began to avert disaster.
For example, if a customer owns a $100,000 home and only owes $50,000 on their first mortgage, a lender could allow the person to borrow an additional $25,000 in the form of a home equity loan. Unfortunately, this second mortgage didn’t help much in the long run as the depression deepened and many people lost their property. As a result, home equity loans became equated with poverty and carried a social stigma.
Mainstream in the 1970s and 1980s
This began to change in the 1970s and 1980s. A number of factors contributed to their explosion over these decades, including the fact that more custodians – including big-name banks – decided to enter the market.
Banks had certain advantages over financial firms, including the ability to offer home equity lines of credit (HELOCs) that consumers could access by writing a check. Suddenly, homeowners had the option to borrow only the amount they needed, when they needed it, instead of taking out a lump sum loan. Deposit-taking institutions also tended to have an older customer base than finance firms, from which more equity could be drawn.
The popularity of these loans only grew with the passage of the Tax Reform Act of 1986, which eliminated the tax deduction for interest paid on non-mortgage debt. This, combined with comparatively low interest rates, made home equity loans significantly more attractive than unsecured loans, which you could no longer write off on your tax return. As a result, the sector grew at a breathtaking pace. The total outstanding value of equity loans increased from $1 billion in 1982 to $188 billion in 1988.
Marketed to the masses by big banks
The 1986 tax law wasn’t the only driving force behind the explosion in home equity lending, however. Around the same time, larger banks made a concerted effort to change the image of second mortgages, which were once seen as a last resort for the financially troubled.
One of the first things banks did was change their advertising terminology. Pei-Yuan Chia, a former vice chairman at Citicorp who oversaw the bank’s consumer business in the 1980s and 1990s, recounted The New York Times in a 2008 interview: “Calling it a ‘second mortgage’ is like crouching your house, but call it ‘equity access’ and it sounds more innocent.” Citigroup introduced a campaign in the early 2000s urging homeowners to “live rich.” Banco Popular had a “Make Dreams Happen” ad campaign with the slogan “Need Cash? Use your home.”
“Banks began to use consumer acquisition techniques more like a department store than a bank,” says Barbara Lippert of promotional week said The New York Times 2008. “That was a real change of direction.” What these marketing campaigns usually left out was the dangers that come with these loans, including the risk of foreclosure for borrowers unable to repay them.
Playing a role in the Great Recession
The home equity loan market continued to grow until 2005, when the value of new HELOCs reached nearly $364 billion. At this point, the growth of the market was fueled in large part by lowering credit standards, which meant that even clients with weaker FICO scores or high debt-to-income (DTI) ratios could often be admitted.
This all changed over the next few years, which saw a dramatic fall in home values and a corresponding increase in defaults, triggering the Great Recession. As a result, lending fell dramatically while banks tightened their lending standards. As the housing market began to recover, equity-based lending began to rise, although not at the pace seen during the 2005 peak.
COVID-19 slows recovery
Home equity lending fell again early in the COVID-19 pandemic, with banks like JPMorgan Chase suspending HELOC lending on April 16, 2020 due to economic uncertainty and a turbulent job market. Citigroup followed almost a year later, on March 3, 2021.
Even with the job market recovering and Americans sitting on a record amount of home equity — $9.9 trillion by the end of 2021, according to data company Black Knight — both big banks have yet to raise new equity loans. However, Bank of America continues to offer HELOCs, including a fixed-rate hybrid model that can mimic a home equity loan. According to the report by The Wall Street Journalit initially introduced stricter lending standards to mitigate credit risk, but has since reverted to its previous underwriting policy.
However, the absence of several major banks from the market hasn’t prevented the comeback of home equity loans in 2021. The prospect of continued rate hikes has made lower-cost home loans more attractive, leading to significant growth in home equity issuance and new HELOCs.
How long have home equity loans been around?
Home equity advertising dates back at least to the Great Depression. Back then, they were relatively rare and typically used by homeowners who had no other way to pay off their debts. Their popularity rose sharply in the 1970s and 1980s when larger banks began offering them and Congress passed legislation phasing out the tax deduction for other types of interest payments.
What were the first companies to offer home equity loans?
For much of the 20th century, most home equity loans were originated primarily by consumer finance firms, second mortgage companies, and even individuals. However, in the 1970s, more traditional banks began to add these products. As custodians, they could offer equity-based lines of credit that consumers could access by writing a check.
How did the 1986 Tax Reform Act affect home equity loans?
Among other provisions, the Tax Reform Act 1986 eliminated the tax deduction for interest paid on non-mortgage debt. This made home equity loans a more attractive alternative to other loans.
The final result
Home equity loans have been around for almost a century, although the industry really came into its own in the 1980s, after banks began to reshape the image of these loans, followed by Congress passing legislation making them more attractive than other forms of mortgage lending Loans made loans. The Great Recession and the COVID-19 pandemic both dampened their use, but to this day, home equity loans remain an extremely popular means of borrowing money.