Posted 09/07/2012 by Anonymous
With mortgage interest rates reaching all-time lows, many homeowners are refinancing to lower their interest rates to shorten the terms of their loan or pay for home improvement projects. Refinancing can also let you use your home equity to consolidate debt from credit card or other loans.
What it means to consolidate debt
When you refinance your mortgage, you essentially pay off the old mortgage with a new one that has different terms. Consolidating debt through refinancing lets you combine your outstanding credit card and other loan balances by rolling them into one debt consolidation mortgage. You still owe the money you did before consolidating, but it will be due with the terms of the new mortgage.
Lower interest rates
Debt consolidation mortgages are popular because they typically offer much lower interest rates than credit cards and other loans. This can lead to lower monthly payments, freeing up money to use toward paying down your debt. Yet it’s important to keep in mind that longer loan terms often mean paying more in interest over the life of the loan, despite the lower interest rates.
When it comes to taxes, not all debt is equal. The interest that you pay on your home mortgage is tax deductible, while the interest on credit cards and other loans is not. This savings is another way you can free up some money to use toward paying down the principle of your debt.
Single monthly payments
Consolidating your debt from credit cards and other loans turns multiple monthly bills into one payment. This may make it easier to manage your finances and see where your money is going each month. Of course, new debt from credit cards (for purchases after the consolidation) will still appear on separate bills.
Closing costs and additional fees
Refinancing your home mortgage will come with fees and closing costs, just as your first mortgage did. Discuss these fees with your lender to understand how long it will take to recoup the costs through the savings you earn from the new loan. At a minimum, you want to be sure that you plan to live in your home long enough to recoup the refinancing costs.
Unsecured and secured debt
Refinancing to consolidate debt comes with a greater risk for your home because it turns unsecured debt into secured debt. To qualify for the new mortgage, you are using your home as security that you will pay off your debt. If you miss enough payments, the lender can foreclose on your home.
Why you need a home equity appraisal
When you refinance for a debt consolidation mortgage, your home will need to be professionally appraised. The appraisal lets the lender know how much your home is worth, which helps them decide how much they are willing to give you for a home loan. This process includes a visit to your home as well as a report of comparable homes in the area.
Paying off future debt
Refinancing with a debt consolidation mortgage can be a good way to manage your existing debt. However, you must also change your spending if you want to avoid running up new debt in the future. Moving your debt to your mortgage is not a free pass to run up more bills you cannot afford, and refinancing to consolidate debt multiple times can eventually leave you with a mortgage that is higher than the value of your home.
If you have considerable debt from credit cards and other loans, a debt consolidation mortgage may the the right step to get your finances back on track. Think about the reasons for your current debt and talk to your lender about all of your refinancing and home loan options.