A home equity loan is a type of consumer debt that allows homeowners to borrow against the equity in their homes. After you apply, your lender will send you a credit agreement to sign and return. At this point, you have three days to reconsider and cancel the loan. If you decide to cancel, your lender must relinquish their claim to your property and refund all fees they have charged. Discover how and when you can cancel a home equity loan.
A home equity line of credit (HELOC) can seem like an easy way to access funds for home improvements, debt consolidation, or other expenses. But what happens if you can no longer afford the payments? Can you just walk away, like some homeowners did during the housing crisis?
The short answer is yes, you can walk away from your HELOC payments. But this decision comes with major financial consequences that you’ll need to consider carefully beforehand.
How a HELOC Works
With a HELOC, you’re using your home as collateral to borrow against. The lender appraises your home and extends you a line of credit up to a certain limit based on your home equity.
You can then draw against this credit line as needed HELOCs often have a draw period of 5-10 years where you can access funds, followed by a repayment period of 10-20 years
During the draw period, you typically only pay interest on the amounts borrowed. Once the repayment period starts, you must make monthly principal and interest payments on the full balance until it’s paid off
The HELOC interest rate is variable, meaning it fluctuates over time. This makes monthly payments unpredictable.
Consequences of Walking Away From a HELOC
While it’s technically possible to stop making HELOC payments, doing so has severe financial repercussions:
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Foreclosure: If you walk away, the lender can foreclose on your home. You’ll be forced to move out, and the property will be sold to repay your HELOC balance. This destroys your credit score and makes future borrowing very difficult.
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Tax implications: The forgiven HELOC debt may be treated as taxable income by the IRS. You could owe taxes on tens of thousands of dollars or more.
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Deficiency judgment: If your home sells at foreclosure for less than what you owe, the lender can obtain a deficiency judgment against you for the difference. This gives them the right to garnish your wages, levy your bank account, or put liens on your other assets.
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Credit damage: A foreclosure will demolish your credit, making it difficult to qualify for loans, rentals, utilities, insurance policies, and more. It can stay on your credit report for up to 7 years.
As you can see, the consequences are massive. Walking away from a HELOC should be a last resort when all other options have been exhausted.
Alternatives to Walking Away
Here are some alternatives to consider before making the decision to walk away:
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Reinstate the loan: If you’ve missed some payments but can come up with the past-due amount, you may be able to reinstate the loan and avoid foreclosure. This preserves your credit.
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Modify the loan terms: Ask your lender if they can modify the terms by extending the repayment period, lowering the interest rate, or reducing the monthly payments to make it more affordable.
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Sell the home: If possible, sell the home and use the equity to pay off the HELOC. This allows you to avoid foreclosure and preserves your credit. You may be able to rent or buy a more affordable property after selling.
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Deed in lieu of foreclosure: Voluntarily deed the home back to the lender to avoid foreclosure. While this still damages your credit, it’s not as bad as an involuntary foreclosure.
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Bankruptcy: Filing for Chapter 7 or Chapter 13 bankruptcy stops the foreclosure process and can eliminate some HELOC debt. However, bankruptcy also seriously harms your credit.
Ideally, you want to avoid having a foreclosure on your record at all costs. This should be the absolute final option if you have no other choice. Consult with a housing counselor or attorney to understand all your rights and review the alternatives before making this decision.
Key Takeaways:
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It’s possible but extremely risky to walk away from a HELOC by stopping payments. This leads to foreclosure and damages your finances for years.
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Consider alternatives like loan modifications, selling your home, or bankruptcy before choosing to walk away.
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Reinstating the loan if you can or voluntarily deeding the property back to the lender are better options than involuntary foreclosure if you must default.
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Consult professionals to review your options and understand the serious impacts to your credit, taxes, and finances from walking away. Exhaust all other alternatives first.
The bottom line is that you can technically walk away from a HELOC, but doing so can financially devastate you for many years to come. This decision warrants an abundance of caution, research, and expert guidance before moving forward. The consequences are simply too great to take lightly.
How to Cancel Your Home Equity Loan
To cancel a home equity loan or home equity line of credit, you must inform your lender in writing. You must deliver or mail your written notice before midnight on the third day, and you can’t cancel by phone or in face-to-face conversation. If you mail the written notice, ensure that you send it via registered mail so that you have a record of when you mailed it.
Ask your lender to confirm receipt of your cancellation notice and keep a record of the date they received it. They have 20 days from this date to return any money you’ve paid them.
What Happens After You Cancel
If you cancel the loan within the three days, your home is no longer collateral and can’t be used to pay the lender. Your lender also must refund you all of the fees that they’ve charged, including application fees, appraisal fees, or title search fees, whether paid to the lender or to another company that is part of the credit transaction. The lender has 20 days after you cancel to refund these fees and release your home.
If you received money or property from the mortgage lender, you can keep it until the lender shows that your home is no longer being used as collateral and returns any money that you’ve paid. Then, you must offer to return the lender’s money or property. If the lender doesn’t claim the money or property within 20 days, then you can keep it.
If you cancel a home equity loan within three days, your lender immediately gives up their right to your home. They have 20 days to refund you for any fees they’ve charged.
HELOC Explained (and when NOT to use it!)
FAQ
How do I get out of a home equity line of credit?
You can do this by getting a cash-out refinance and using the funds to pay off the line of credit, or by consolidating the outstanding balance on a HELOC into a traditional refinance of your home’s primary mortgage. The latter route will result in a single, fixed monthly payment.
Can I cancel a home equity line of credit?
To cancel a home equity loan or home equity line of credit, you must inform your lender in writing. You must deliver or mail your written notice before midnight on the third day, and you can’t cancel by phone or in face-to-face conversation.
Can you walk away from a home equity line of credit after?
When you take out a home equity loan, you have three business days during which you can cancel it without consequence. If you choose to exercise this right, your lender must return any fees or payments. After this period, you’ll have to pay back the loan in order to get rid of it.
Can you get a home equity line of credit and not use it?
A HELOC opens up a line of credit that the borrower can, but doesn’t have to, use up to the established credit limit. Borrowers then pay back the credit used and associated interest. However, it’s generally best to use a HELOC for major expenses and credit cards for everyday purchases.