Now that home equity loans are available in Texas, lenders must be careful not to make a home equity loan unintentionally.

Prior to January 1, 1998, lenders customarily included the costs to refinance, including prepaid items, in the refinanced loan amount. Title insurers generally insured the lien so long as the financed closing costs and prepaids did not exceed 5% to 7% of the refinanced loan amount and the Deed of Trust included a clause providing that payments on the note would be applied first to any portion of the debt not validly secured.

The Home Equity Constitutional Amendment specifically provides that the "reasonable" and "necessary" costs to refinance a loan on homestead can be included without the loan being deemed a home equity loan. What costs are "reasonable" and "necessary" is a fact question only to be determined by a court.

The title underwriters are taking different positions as to what they will insure as a "non-cash-out" refinance. For instance, Stewart title guaranty will insure a refinance as a valid lien so long as the closing costs, including prepaids, do not exceed 5% of the loan amount or $5,000, whichever is less. Other underwriters will not insure if prepaids are included in the refinanced loan amount.

Absolutely no cash should be reflected as going to the borrower on the HUD-1. Reimbursement to the borrower of P.O.C. items such as credit report and appraisal fees should be fully documented and reflected on the HUD-1 as a reimbursement of specific P.O.C. items and checks cut to the borrower should specifically reference P.O.C. items reimbursed.

Prior to closing a refinance, you should check with your investor to determine its policy in this regard and you should check with the title company closing the transaction to determine its underwriting guidelines.

Failure to carefully monitor financing of closing costs and/or prepaids could cause you to make a loan with cash out without intending to do so. This could result in the failure of your entire lien.

Should you have questions regarding the subject matter, please contact an attorney in one of our offices.