When home prices were increasing, home-equity loans were a convenient way to finance numerous types of expenditures. While the loan is secured by the home's equity, the proceeds can be used for anything, including expenditures that have nothing to do with the home. In addition, home-equity loans have a significant advantage over other forms of consumer debt - interest paid on up to $100,000 of home-equity loan proceeds can be deducted on your tax return if you itemize deductions. Home-equity loans typically offer competitive interest rates, usually no more than prime rate or 1% or 2% over prime. Competitive interest rates combined with tax deductibility can add up to very attractive after-tax rates.

With all these advantages, it's no wonder home-equity loans became popular with homeowners. Until recently, lenders were often willing to offer home-equity loans on up to 100% of your home's value, with a simple application process and a quick check of home prices in your area.

But with declining home values and increasing numbers of foreclosures, lenders are not as anxious to approve home-equity loans. While the loan is secured by the home, it is a second lien that is subordinate to the mortgage. Thus, following a sale, the home-equity loan won't be paid until the mortgage is paid in full.

Many homeowners are being notified by lenders that their home-equity line of credit is reduced or frozen. Most contracts contain a provision allowing the lender to reduce or suspend the line if home values fall significantly or the homeowner's ability to repay the loan decreases. Signs to the lender of a decreased ability to repay include a poor credit rating, a small down payment with no private mortgage insurance, or late payments noted on your credit report. If you receive such a notice but still need the line, call and discuss your situation with your lender.

If you are trying to obtain a home-equity loan, be aware of these likely changes:

• The loan-to-value ratio will probably be lower. In the past, it was not uncommon for a mortgage and home-equity loan to total 100% or more of the home's market value. Now, anything over 90% is rare, and that percentage may be much lower in markets with declining home values. Some areas have limits as low as 65% of the home's value.
• Your credit score is more important. In the past, it was fairly easy to obtain a home-equity loan. Now, lenders are more concerned with your ability to repay the loan, using your credit rating as an indication. If your credit score is less than 680, it will be difficult to find a lender willing to approve the loan. The higher your score, the more options available and typically, the lower the interest rate you will have to pay.
• You'll need a full appraisal of your home. In the past, a simple review of home values in your area was often enough for a home-equity loan. Now, you'll probably need a full appraisal, including a walk through of your home.

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