Can I Get a Home Equity Loan While in Forbearance?

Navigating financial challenges can lead many homeowners to explore options for accessing their home equity. A common question arises for those currently experiencing a temporary pause or reduction in mortgage payments through forbearance: can a home equity loan or line of credit be obtained during this period? This article aims to clarify the complexities involved in securing such financing while in forbearance.

Home Equity Loans and Lines of Credit Explained

Home equity represents the portion of your home that you own outright, calculated as the difference between your home’s market value and your outstanding mortgage balance. Home equity loans and home equity lines of credit (HELOCs) are financial products that allow homeowners to borrow against this accumulated equity. A home equity loan provides a lump sum of money, disbursed all at once, which is then repaid over a fixed term with a fixed interest rate.

Conversely, a HELOC functions more like a revolving credit line, similar to a credit card. It allows borrowers to draw funds as needed up to a predetermined limit over a specific draw period, typically 10 years, and only pay interest on the amount borrowed. After the draw period, a repayment period begins, during which principal and interest payments are made. Lenders assess several factors for eligibility, including the amount of available home equity, the borrower’s credit score, and their debt-to-income (DTI) ratio, which compares monthly debt payments to gross monthly income. A stable income and a history of responsible credit use are also generally required.

Understanding Mortgage Forbearance

Mortgage forbearance is a temporary agreement between a homeowner and their mortgage servicer that allows for a pause or reduction in mortgage payments for a specified period. This arrangement is typically offered to borrowers experiencing financial hardship, such as job loss, illness, or other unforeseen circumstances. The purpose of forbearance is to provide temporary relief, helping homeowners avoid default and foreclosure.

During the forbearance period, the borrower’s mortgage account remains active, and the missed payments are not reported as delinquent to credit bureaus. Under federal guidelines, mortgage accounts in forbearance may be reported as “current” or “account in forbearance.” This reporting aims to prevent negative impacts on a borrower’s credit score solely due to entering forbearance. The agreement outlines how missed payments will be repaid once the forbearance period concludes.

Lender Evaluation During Forbearance

Lenders generally view applications for new credit, including home equity loans and HELOCs, with increased scrutiny when a borrower is in a mortgage forbearance plan. While forbearance itself might not immediately lower a credit score, lenders assess the underlying financial hardship that led to the forbearance. They perceive a borrower in forbearance as having an elevated risk profile due to demonstrated financial instability.

Lenders evaluate the same criteria for home equity products as they would normally, but the forbearance status significantly impacts their assessment. For instance, the income stability of an applicant in forbearance is questioned, as the reason for forbearance is a disruption to income. The debt-to-income (DTI) ratio also becomes a concern, as lenders consider the deferred payments that will eventually need to be repaid. Although these payments are not currently due, they represent a future financial obligation that could strain the borrower’s ability to take on additional debt.

Many lenders have policies that prevent them from approving new loans, including home equity products, for borrowers who are actively in a forbearance agreement. This is because forbearance indicates a current or recent inability to make full mortgage payments, which directly contradicts the lender’s requirement for consistent and reliable repayment capacity for a new loan. Even if a borrower has significant equity, the perceived risk associated with the forbearance status outweighs this asset. Lenders prioritize an applicant’s current ability to manage debt and their likelihood of repaying the new loan, which is diminished by the presence of a forbearance agreement.

Financial Standing After Forbearance

Once a mortgage forbearance period concludes, homeowners typically have several options to address the deferred payments. These options may include a lump-sum repayment of the missed amounts, entering into a repayment plan to add a portion of the deferred amount to future mortgage payments, or pursuing a loan modification to adjust the loan terms. The specific options available depend on the loan type and the servicer’s policies.

The chosen repayment strategy and the successful completion of the forbearance agreement significantly influence a borrower’s financial standing and future creditworthiness. Successfully repaying the deferred amounts or adhering to a modified plan demonstrates renewed financial stability. This positive resolution can improve a borrower’s eligibility for future loans, including home equity products, by showing lenders that the financial hardship has been resolved. However, any new loan applications will still be subject to a full credit and income assessment, with lenders evaluating the borrower’s current DTI and overall financial health.