Using Your Home Equity to Consolidate Debt

Using Your Home Equity to Consolidate Debt

When interest rates increase borrowing money becomes more expensive for all sorts of things, including homes. Although this makes it more expensive to buy big-ticket items, it’s not all bad. As interest rates rise, the interest rates on the money that you save also tend to increase, making the money you do have worth more.

If the money you have is worth more, it stands to reason you don’t want to keep spending a bunch of it paying off credit cards and other debts at a high rate of interest. And although interest rates might be going up, so are home values. This presents a unique opportunity.

As interest rates rise, your mortgage is probably going to have one of the lowest interest rates you're going to have or be able to get. Home values in Utah going up means you have more equity you can turn into cash. If you have several thousand dollars worth of credit card debt, a debt consolidation cash-out refinance may be the best way to pay off credit card interest at a much lower rate than what you would be paying overtime on the credit card. 

How Much Interest Are You Paying?

The average rate on a variable-interest credit card is above 16.8%.

According to ValuePenguin, the average household debt for people who do carry monthly credit card balances is $16,048.

Using a credit card interest calculator, if you make the minimum payment on those balances at a 17% APR interest rate, it could cost you more than $22,000 in interest. 

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If you contrast that with a mortgage, even if rates go up a little bit to 5% or even 6%, you’re saving yourself a lot of interest over time vs. paying it on the credit card balance.

In addition to reducing the interest rate you pay, paying off your credit card debt with a debt consolidation cash-out refinance is beneficial for your credit score because you’re not carrying high balances and utilizing too much of your available credit.

Personal loan rates vary widely based on the situation. However, they tend to be higher than mortgage rates and can be quite a bit higher depending on the terms of the loan. 

Cash Out vs Personal Loans

Personal loans have their advantages. You can take out smaller loan amounts and not have to tap into your home’s equity. It can also be a nice option if you haven’t built up enough equity yet for taking cash out to make sense.

However, you’ll likely pay a higher interest rate on that debt than if you use your home’s equity. In addition to the lower interest rates, another huge advantage mortgages have over paying the interest through the credit card itself or even a personal loan is the fact that mortgage interest is generally tax-deductible. Depending on your tax situation, this could mean savings for you. 

Does Taking Cash Out Make Sense?

The big thing to figure out next is whether taking cash out makes sense. There are a couple of factors here.

For starters, mortgage investors like Fannie Mae, Freddie Mac, FHA, etc., all require you to keep a minimum amount of equity in the home when you take cash out. VA loans offer the ability for you to make the most of your home equity by allowing you to convert all of your existing equity into cash, but not everyone qualifies. You need to be an eligible active-duty servicemember, veteran, or surviving spouse, you need a 680 median FICO score. FHA and conventional loans from Fannie Mae or Freddie Mac require homeowners to leave 15% and 20% equity in their home.

Knowing that a key question you need to ask yourself is whether you have enough equity in your home before you'll be able to refinance to accomplish your goals, whether you want to pay off debt or use the money for other purposes.

Finally, you need to determine whether the cost of the mortgage makes sense compared with taking a personal loan to consolidate debt. If you’re looking at this, take into account not only the interest rate but the closing costs as well. If it’s an FHA loan, you’ll also have your monthly mortgage insurance fees for 11 years with a cash-out refinance.

Are you interested in cash-out debt consolidation? You can get a full refinance approval online with Advanced Funding Home Mortgage Loans' quick application. If you’d rather chat with one of our Utah Mortgage Brokers about your goals and aspirations, you can give us a call at (801) 272-0600.