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How to use your home to consolidate debt

Author Mohita Jaidka

 

Your home is a valuable financial tool that can be used to help you qualify for credit, consolidate debts and enjoy a wider range of borrowing alternatives. Your home equity is the key to securing a preferential interest rate. 

Home equity 101 

Equity refers to ownership. Home equity refers to the percentage of your home that you own, compared to how much you still owe on your mortgage.

 

In the early years of home ownership your equity is typically low because you still owe a lot of money on your mortgage.

As you pay down the principal amount you borrowed, your home equity starts to build and grows quickly in the final years of your mortgage. This is important as the amount of equity you have in your home determines whether or not you can borrow against it and what interest rate you will be charged.  

 

Home equity can become a powerful financial tool if you are struggling with debt. For example, it can be helpful when you are trying to balance multiple payments across credit cards, lines of credit or simply trying to cover day-to-day bills and expenses. 

There are four ways to use your equity to consolidate and pay off debt:

Home equity loans

A home equity loan (HEL) is an installment loan secured by the equity in your home. It does not replace your mortgage. An HEL is a convenient way to consolidate debt because you receive a lump-sum amount and decide how long you want to take to pay it back. Depending on the size of the loan you could take up to 240 months. 

👍 Pros

  • Because you are putting up part of your home equity as ‘collateral’ for the loan, you’ll likely qualify for a better interest rate. You’ll know exactly how much you owe and every on-time payment can help to rebuild your credit. 

👎 Cons

  • If you bought recently, the value of your home may have gone down. This is only a concern if you plan to sell in the short term.

Home equity lines of credit

A home equity line of credit (HELOC) is a form of revolving credit secured by up to 65 per cent of your home’s value. To qualify for a HELOC, you’ll typically need at least 20 per cent equity and a credit score of 670 or higher.  

👍 Pros

  • Just like an HEL, you are putting up part of your home equity as ‘collateral’ for the loan. Therefore, if you meet the minimum equity requirements and have good credit, you’ll likely qualify for a better interest rate. 


👎 Cons

  • HELOCs are revolving credit. There is no end date to your debt. You can keep borrowing up to your credit limit for as long as you keep the minimum payment. If you’re not diligent about paying it off, it can become a treadmill of debt for a long time.

 

Mortgage refinancing

This involves either taking out a new mortgage, ideally with better terms than your current mortgage or taking out a second mortgage typically with a different lender. With either option you are getting additional financing that needs to be paid back on top of your current debt load.

To use this method to consolidate your debt, you need to borrow enough money to pay off your current mortgage, PLUS cover all of the outstanding debts you want to consolidate. 

👍 Pros

  • You might be able to negotiate a good interest rate because mortgages are secured by the equity in your home. Also, you might save money in the long-term by eliminating a lot of your higher-interest-rate debt.  

👎 Cons

  • Breaking your current mortgage to take a new one takes time and there could be substantial fees if you are at the start of a new term. You’ll also be adding years to your mortgage and delaying the day when you live debt-free. 
  •  You now have three owners of your home: Bank #1, Bank #2, and you. Your equity is spoken for and you have two mortgage payments to make every month. 

What’s right for you? 

All of the options described above are financial tools that can achieve similar results. Before making any decision, it is best to meet with a loan specialist who can suggest a solution that will work best for you and your circumstances. Contact us today or visit easyfinancial.com to find a location near you. 

 

Disclaimer: This content is intended for informational purposes only and does not constitute financial advice on any subject matter.