Refinancing home owners are tapping the home equity till it is at a rate not seen in more than 15 years and most of them are paying a larger interest rate for the new loan.
A cash-out loan is by nature an equity-depleting loan and should home owners hit hard economic times in a market of stalled or reversed appreciation, they may not have an equity cushion to soften the blow.
However, home owners are not necessarily gambling away their equity -- the difference between the value of the home and the balance on the home mortgage.
A saving grace may be the healthy 30 percent median rate of appreciation on homes with refinanced mortgages. That equity boost may let home owners afford the more expensive loans.
A more expensive first mortgage could also be a smart move if it halts the upward march of interest rates on both adjustable rate first mortgages and home equity loans.
"Almost no one is refinancing to reduce their interest rate in today's environment. In fact, the first quarter of 2006 is the first time in 20 quarters in which the new mortgage rate was higher than the old one for more than half of refinancing borrowers," said Frank Nothaft, Freddie Mac vice president and chief economist.
Home-equity loans are often tied to the prime rate and include an additional margin. The prime is now at 7.75 percent, compared to the 6.5 percent average rate on a 30-year fixed-rate mortgage.
Higher loan cost conditions are responsible for 88 percent of Freddie Mac-owned loan refinancings resulting in mortgages with balances at least five percent higher than the original mortgage in the first quarter, Freddie Mac reported.
That's the highest level since refinancing home owners reached the same level during the third quarter of 1990 -- the peak of another housing boom when the rate of appreciation on homes with refinanced mortgages was 52 percent.
Still, one-half of borrowers who paid off their original loan and took out a new one had an interest rate on their old loan that was at least two percent lower than the new interest rate, Freddie Mac reported.
"The first quarter of 2006 was the first time in five years that we saw more than half of borrowers increase their mortgage rates when they refinanced. The difference is small enough that the average borrower's mortgage payment barely changed, but it is a significant turn from the trend of significantly lower payments that we came to enjoy since the start of 2001," said Amy Crew Cutts, deputy chief economist.
The share of Freddie Mac-owned loans that were refinanced fell in the first quarter to 44 percent down from 45 percent in the last quarter of 2005. The drop was often because interest rates on all mortgages increased during the same period from 0.02 percent to 0.25 percent, Freddie Mac reported.
That share will fall further to 36 percent this year as home equity extraction drops from $244 billion in 2005 to only $170 billion this year, due to higher interest rates and slower rates of appreciation.
Cutts said, "Many borrowers will be looking to refinance this year when their adjustable rate mortgages hit the first rate reset or as a low-cost way to fund a major project, such as a home improvement, or to consolidate other debt."
The average 6.5 percent rate on a 30-year fixed rate mortgage remains well below the 35-year average rate of 9.4 percent, Freddie Mac reported.
