Ways to Use Your Mortgage for Debt Consolidation
Credit card debt can be very expensive, with the typical credit card interest rate at or above 15% per year. If a household has $10,000 of credit card debt, they are spending $1,500 per year just on interest!
Mortgages, on the other hand, have some of the lowest interest rates in the lending industry. Your household might be able to benefit from shifting credit card debt into your home loan.
That is known as a debt consolidation mortgage loan and it can dramatically reduce the amount of interest you are currently paying on your credit cards.
If you decide to refinance with a cash-out option, you can wind up with rates that are more than half of what you're paying now.
Let's take a look at the ways you can do this...
Ways to Consolidate Debt With Your Mortgage
The most common way to pay off credit card debt with a home loan is called a cash-out refinance. The homeowner refinances the mortgage on their home with a new loan that has a higher loan amount but much lower interest rates. The money from this home refinance then pays off the old mortgage and your credit card debt.
Homeowners who already have a mortgage with a very low interest rate might want to consider a home equity loan instead. With this type of loan, the money can be used for any purpose, including paying off credit card debt.
You will continue making your regular home loan payment each month, plus a separate payment for the home equity loan.
Benefits of mortgage debt consolidation loans
- Move credit card debt to a lower interest rate loan: You will save money every month when you are paying low interest rates on your debt instead of high credit card interest rates.
- Get fixed payment amounts to make budgeting easier: The monthly payments on a home mortgage are the same each month, as opposed to credit card payments that fluctuate. It's easier to budget for and keep up with payments when they are a fixed amount.
- Interest on this new loan is tax deductible, even if it was used to consolidate debt: You can't deduct credit card interest on your taxes, but in most cases, you will be able to deduct mortgage interest. This can save you money every year.
Pitfalls to avoid when consolidating with a home loan
- Don't rack up more debt: Once your credit cards have been paid off, stop using them so you don't keep adding to your debt and get yourself stuck in the same position you were in before.
- Don't put your home at too much risk: Being late on credit card payments can lead to low credit scores and perhaps bankruptcy. Being late on mortgage payments, on the other hand, can lead to foreclosure and losing your home. If you don't think you can make higher payments, don't put your home at risk.
- Don't refinance too frequently: Refinancing includes many one-time costs, so you generally don't want to do it if you expect to sell your house or refinance again sometime in the next few years.
Next steps: How to refinance your mortgage and pay off credit card debt
- Calculate your total credit card debt by adding up the balances on all the credit cards you would like to pay off.
- Check your credit report, which you can do for free through annualcreditreport.com, and correct any errors that might be dragging down your credit score. Having a higher credit score can help you qualify for a lower interest rate.
- Contact a mortgage lender and tell the loan officer you are interested in a cash-out refinance for the amount you calculated. Or you can go with the home equity loan. Provide all needed information to complete your loan application.
- Look over the loan documents, ask your lender any questions to ensure that you understand the terms of your loan, and complete all needed steps to finish your mortgage refinance or home equity line of credit deal.
- When you get the cash at closing, immediately use it to pay off your credit card debt.
As you can see, the process itself is not difficult at all.
Our Final Thoughts...
By now you know there are some benefits and some big pitfalls that you need to avoid with a debt consolidation mortgage and equity loan. But if done right, this type of home loan arrangement can reduce the amount of interest you pay on your credit cards.
And it simplifies your debt (only one payment).
Either option you choose from the two listed above, whether it's the refinance or home equity loans, you will have to make sure that you do everything in a smart way.
Take your time when viewing the paperwork of the deal. If you feel you're being rushed into signing on, then take a step back.
Don't borrow more than you could possibly afford. After all, your house will be on the line. So if you ever think that your lender is trying to rush an offer you don't like, don't be afraid to bail out.