maritime transport

Should you use a home equity loan to consolidate your debt?

A home equity loan is a convenient way to unlock the value of your home and access cash at a low interest rate. When you take out a home equity loan, it means that you are borrowing against the the equity you have accumulated in your home (after all, the more mortgage payments you make, the more equity you have). The value of your home secures the loan, so a bank or lender feels comfortable giving you a high line of credit.

Lenders generally want to make sure you have at least 15% to 20% equity built up in your home before approving you for a home equity loan. Once approved, you can either receive the money as a lump sum which you repay with regular payments at a fixed interest rate, or if you use a home equity line of creditor HELOC, you can keep a revolving line of credit open for years and withdraw as you see fit, but your the interest rate will go up and down overtime.

Right now, home equity rates are hovering just under 7%, meaning they’re a lower-rate option to other types of financing like credit cards or personal loans. (which currently average 10.7% according to Bankrate, CNET’s sister site).

Read on to learn more about the Advantages and disadvantages of using a home loan (commonly known as a second mortgage) to consolidate debt, as well as alternative options to reduce debt and get your finances back on track.

Should you use the equity in your home to consolidate your debt?

Some of the reasons for borrowing against your home equity to consolidate debt include paying off higher interest consumer debt, such as credit cards or student loans. Essentially, you can use the funds for whatever you want – which is why it’s essential to ensure that you can manage your money responsibly, such a high line of credit over a long period of time. If you are tempted to use your home loan for expenses, such as vacations or non-essential life events instead of paying off – and reducing – your debt, this may not be the right solution for you.

Benefits of Using Home Equity to Consolidate Debt

Home equity loans and HELOCs let you take advantage of home ownership by unlocking the equity in your property in cash. They can also give you access to money quickly, in as little as one to two months.

Lower interest rate

Home equity loans tend to have low interest rates, saving you money over the life of your loan. For example, if you have a credit card APR of 21%, you can pay it off with a 7% HELOC, saving you thousands of dollars in interest over the life of your loan.

A lower monthly payment

Combining all of your debt into one monthly payment makes paying off your debt easier and simpler and should reduce the amount you pay each month.

Tax deduction for home renovations

If you use your home equity loan for home renovations or repairs, you can deduct it from your taxes.

Disadvantages of Using Home Equity to Consolidate Debt

Make sure you are prepared to take on the responsibility of managing a large sum of money over a period of years. If you use your equity loan or HELOC to pay off credit card debt, but don’t change your financial behavior and habits, you’ll find yourself in debt again and your home will be on the line – not just your credit score. That’s why it’s important to be thoughtful and judicious about when and why you borrow based on the value of your home.

You can lose your home

The most obvious downside of a home equity loan is that your bank or lender can repossess your property if you fail to make the payments or fail to repay your loan for any reason.

A home equity loan can increase your debt

If you don’t manage your loan and other debts properly in the future, you can also end up with more debt. As in, if you pay off your credit card debt but don’t change your spending habits, you’ll end up paying for credit card payments on top of your home equity loan payments, which negates the reason for which you took out the loan. in the first place.

Loan limits

If you have a low or less than stellar credit scoreor if you already have a lot of debt, you may not have access to a very large loan amount, and the interest rate a lender will charge you will likely be higher as well.

Alternative solutions to consolidate your debts

Before committing to a home equity loan or HELOC and putting your home on the line, consider the other types of financing available to you. Rather than taking out a second mortgage, you can consider options such as a 0% interest credit card or a personal loan, which does not involve the risk of losing your home – although they may come with higher interest rates since they are unsecured loans.

Credit cards with balance transfer

Such balance transfer credit cards typically offer 0% interest for an introductory period, which can range from six to 21 months. After that, your interest rate will increase and you will pay a higher APR.

Personal loans

You can apply for a personal loan at a bank or other financial institution. You can pay a higher interest rate, but you won’t have to put your house up as collateral to secure a loan.

Global debt management

Another option is to get into credit counseling. You can work with a non-profit agency that charges little or no fees, and your credit score won’t be negatively affected. Counseling Services can negotiate lower balances and interest rates with your creditors on your behalf, as well as create a plan to keep you out of debt. Pay attention to debt consolidation scams and be sure to work with a reputable organization if you go this route.

How to Apply for a Home Equity Loan to Consolidate Debt

To qualify for a home equity loan, you must be approved by a bank or lender. Lenders generally want to see that you have at least 15% to 20% built into your home. If you have sufficient equity, then lenders want proof that you are solvent and able to repay the loan. Usually, lenders require a minimum credit score of 620 (the higher your score, the better your chances of being approved for a loan and at a lower interest rate), a debt-to-equity ratio of 43% or less, and proof of your income , among other types of financial documents . You may also be required to pay for a new home appraisal for an accurate and up-to-date valuation of the current market value of your home.

The bottom line

A home equity loan can help you consolidate and pay off your debts at a lower interest rate, but you need to weigh the pros and cons of using your home as collateral to get a loan. As long as you make payments on time and continue to pay down your debt, home equity loans can be cost-effective ways to unlock the value of your home.