There Are Several Ways to Tap the Equity in Your Home
5 Smart Reasons to Refinance Credit Cards and Student Loan Debt with a Fixed Mortgage
If you are paying high interest on your credit card debt and student loans, a possible solution to your problems is to take out a mortgage on your home, such as a cash out refinance. This will allow you to pay off your debts and you will pay a much lower interest rate. You need to think carefully if you want to use your home to help you reduce your higher interest debt, but it can be a smart move in some cases. Here are X reasons to consider doing it.
#1 You Will Pay Lower Interest Rate
A mortgage refinance will usually allow you to take equity out of your home at a very low interest rate. This money can be used to pay off your other debts, and most likely, your interest rate will be a tiny fraction of a credit card rate. This can save you hundreds of dollars in interest charges per month. This type of debt consolidation can make your life much easier.
#2 You May Pay a Lower Interest Rate on Your Home
If you took out a mortgage when rates were higher, a refinance of your mortgage could drop your interest rate by a full point or more. This will reduce your monthly mortgage payment and also will save you thousands in interest over the life of the loan.
#3 Higher Credit Score
If you pay off your credit cards with a cash out refinance on your mortgage, this usually will increase your credit score by dozens of points. This will reduce what it costs you to borrow money for other things, such as a car, furniture and so forth.
#4 Tax Deductions
Unsecured debt on credit cards is not tax deductible. More often than not, your mortgage debt can be written off on your taxes each year, which can save you big as it reduces your taxable income.
#5 Mortgage Debt Is Usually 'Good' Debt
Mortgage debt is secured debt, meaning that it is backed by real estate. If you do not pay your mortgage, the bank or lender takes the home. That is why mortgage debt is considered to be one of the best debts to have, as far as getting other credit, at least.
People are much more likely to make on time monthly payments for the mortgage for the home where they live, so lenders usually look at mortgage debt as better debt to have than unsecured debt, such as credit cards.
As you are considering taking out a mortgage to pay off your credit cards and student loans, you should consider some of the down sides as well. Adding more debt onto your mortgage can be risky; after all, you are playing with your personal residence. If you don't pay, you have to go.
Your personal residence is collateral for the mortgage. If you are not able to make the higher payments that you are taking on when you consolidate your debt, you could lose your home. Or, if your payments are late, you will damage your credit. Learn from the CFPB on getting help with your mortgage.
New Mortgage Terms
The new mortgage has new terms. You should check your interest rate carefully, as well as any fees before you agree to new terms.
Closing Costs and Lending Fees
You have to pay closing costs to do a cash out refinance or to take out any kind of new mortgage. Closing costs can be as high a 3-6% of the amount of the mortgage. So theoretically you could pay several thousand dollars in closing costs if you don't do a good job shopping for the right company.
Private Mortgage Insurance
If you are borrowing above 80% of your home's value, you will need to pay mortgage insurance premiums. If you have a $100,000 mortgage and the home is valued at $200,000 and you do a cash out refi for $160k, you will need to pay PMI in most cases. This will add approximately $2000 per year to your payments.
Encourages Bad Habits
Some people fall into a pattern of taking out mortgages on their personal residence to pay off credit card debt. This frees up the credit cards again, and it is tempting to simply run them up again. It is important to avoid falling into a regular bad habit with unsecured debt.
Here Is the Bottom Line
Doing a cash out refinance or taking out a mortgage to pay off credit card and student loan debt can make sense. If you can get a great low rate and have good uses for the money, it is a good idea. However, keep in mind that it is not a good idea to do a refi to free up credit cards so that you can go on a vacation or buy a car. These things have zero return on investment. On the other hand, using the money to rehab the house or to consolidate debt can help to rebuild your equity that you are taking out.
Did You Know that in Most Cases, the Interest on a Mortgage is Tax Deductible Even If You are Using it to Consolidate Student Loans and Credit Card Debt?