Losing Their Grip on Homeownership

"To deal with your single biggest asset like that is risky," said Jim Gaines, a research economist at the Real Estate Center at Texas A&M University. "Those things should be paid for by current earnings, not savings, which is what your house is."

Catherine Alexander, 61, who lives near Plano, Tex., first dipped a toe into home equity before taking a plunge.

After her husband died four years ago, Alexander moved from Seattle to Texas to be closer to her children, buying $172,000 four-bedroom house with life-insurance money.

For more than a year, she shredded countless home-equity checks sent to her unsolicited by Beneficial, a member of HSBC Group. She finally cashed one for $6,000 to meet expenses after being unemployed for more than a year. That in turn led to phone calls from Beneficial recommending a larger equity loan.

At the end of 2005, Alexander took out a $50,000 equity loan to pay for day-to-day expenses and charges related to her son's wedding. To satisfy that loan and pay off her Ford Escort, she took out another home-equity loan the next year, this time for $93,000.

Alexander, who now works for Neiman Marcus, put her home on the market in May after her home and loan expenses became too costly. Even though she felt lured into the loans, she also blames herself.

"A lot of it has been my ignorance and being naive about my finances and in trusting people," she said. "I shouldn't have had a loan that size for my income, and I should've been more reasonable in the house I needed."

An HSBC spokesman said that in general "our real estate loans require that customers receive a reasonable, tangible net benefit." The company does not comment on individual cases.

Alexander will receive more than half of the proceeds from a sale if she gets her $189,900 asking price.

For other homeowners who took equity out, what remains is scant. Thirty percent of the home-equity loans issued in 2005 and 2006 left homeowners with less than 10 percent equity in their homes, the MBA said. Another 3 percent now owe more than the value of the home.

A home-equity loan is another closed-ended loan on top of a mortgage, whereas an equity line of credit is an open-ended loan. Both use houses as collateral. A homeowner can also refinance for more than what is owed on the current mortgage and pocket the difference.

Many of these homeowners have little savings to fall back on, making matters worse. According to Moody's Economy.com, nearly one-third of homeowners who took out home-equity lines of credit had a savings rate of negative 9 percent this year.

Now, homeowners trapped in unmanageable mortgages with little equity cannot refinance or sell their houses at a price to cover what they owe. Many of them face foreclosure.

Dropping home prices also threaten retail spending as the equity well runs dry. Homeowners will not be able to tap equity as easily for big-ticket purchases and may put more toward saving than spending as housing values fall.

The long-term ramifications could be worse. As prices continue to decline or remain flat, homeowners' total net worth could be wrecked, especially for those who sucked money out of their homes.

Residential real estate represented 39 percent of a household's total assets in 2004, according to the Fed, whereas retirement accounts made up 11.4 percent and stocks just 6.3 percent.

No type of national bailout will replace that lost equity. Those who depended on it will have to rely on meager savings and other investments. Younger homeowners have more time to replenish the equity. But for baby boomers who took out cash from their homes every time home prices went up, their retirement income may not cut it.

"For lower- to middle-income homeowners who are relying on their homes as a source of savings, this will be very tough with declining home values, particularly in context of reining in Social Security, Medicare and Medicaid," said Mark Zandi, chief economist for Moody's Economy.com. "It's one more financial problem on top of mounting ones as they approach retirement."