Is it wise to consolidate credit card debts with a home equity loan?

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People may think that consolidating credit card debt is nothing but a waste of time and they should always avoid it. However, the truth is something different.

Credit card consolidation is a streamline option where you can easily consolidate several credit card debt payments into a single, low-interest monthly payment. If you opt for this method, you can lower your credit card interests and also the number of payments every month.

Major credit card debt consolidation resources

These are few major resources you can opt for to pay of credit card debts:

  • Balance transfer card
  • Home equity loan
  • Personal loan
  • Car loan
  • Loan from a 401(k) or IRA
  • Consulting a credit consolidation company

Now, we will discuss on the 2nd option from the above i.e. taking out a home equity loan to consolidate your credit card debt.

Can you use a home equity loan to consolidate your credit card debts?

Most of our industry specialists might suggest you take out a home equity loan to consolidate credit card debts. The interest rate of a home equity loan is quite lower than other conventional loans and it is tax deductible too. So, it won’t be a bad choice if you utilize your home equity and take out a loan to pay off credit card debts.

But before that, you should know a bit more about a home equity loan.

What is a home equity loan?

A home equity loan is nothing but borrowing money against your existing home equity (the current value of the part you own).

If we try to understand the concept of a home equity through a simple equation, it’ll look like this:

Your home equity = (The appraised value of your home – The value you owe on the old mortgage).

For example, suppose your home’s appraised value is $500,000 and you owe $300,000 on the old mortgage. Then your home equity valuation will be $200,000.

Practically, you may use that $200,000 equity to take out a home equity loan, if your lender allows.

Can you use a home equity loan to consolidate your credit card debts?

Most of our industry specialists might suggest you take out a home equity loan to consolidate credit card debts. The interest rate of a home equity loan is quite lower than other conventional loans and it is tax deductible too. So, it won’t be a bad choice if you utilize your home equity and take out a loan to pay off credit card debts.

But before that, you should know a bit more about a home equity loan.

Is it possible to get a home equity loan from your existing mortgage lender?

Apparently, yes. It is easier to get a home equity loan from your existing mortgage lender rather than other money lenders. It is because the existing lender will get an opportunity to make money from the same house twice, in form of a first mortgage and the second mortgage.

It is notable that a home equity loan can also be called “the second mortgage”. It is because as a borrower you are able to tap your existing home equity and take out another loan.

The interest rate of a home equity loan might be higher than the old mortgage keeping the collateral (the house) same.

Does it always make sense to use your home equity?

You’ll have the provision to use your home equity and take out a home equity loan to consolidate credit card debts. This way you can lower your credit card interest rate and can also use that money to meet your other expenses.

But there are a few risks associated with the process.

Industry professionals may suggest you to use a home equity loan in your emergencies, rather than for making the debt payments.

Let’s verify the actual truth behind this statement by checking the pros and cons of a home equity loan.

Pros and cons of using a home equity loan to pay off credit card debts

Pros

Cons

Home equity loans have lower interest rates than credit cards.

Home equity loan repayment tenure is long. The lender normally allows 10 years or more to pay off the loan.

Home equity loan has lower monthly payments compared to other loans, so your monthly budget will be intact.

Home equity loans have closing costs and other fees.

The interest payable on a home equity loan is tax deductible.

Your house will be again used as the collateral. If you somehow fail to pay off the home equity loan, the lender might foreclose the house.

The home value might drop due to many reasons, so you may owe more than what you have borrowed.

Home equity loan can’t be discharged easily in bankruptcy like a credit card debt.

Many borrowers become tempted and use the home equity fund carelessly. They also forget that the debt is still there, but in a different form. They have just made it easier to pay it back through the loan. If you follow their path and indulge your spending habits to make more debts, simply put, you’ll be in a deep trouble very soon.

Taking out a home equity loan will make no sense if you don’t live within your means. If you use the money to serve other unimportant expenses, you might lose your most valuable possession, i.e. your home.

So, before using a home equity loan to consolidate credit card debts, you need to consider few things:

a. Check your spending

You should find the reason why you have too much credit card debt. If the reason is overspending, consolidating your credit card debt won’t help you much. You should find ways to restrict your spending habit. Also, you need to find an additional income source to increase your cash flow.

Remember, you are going to take out a home equity loan to pay off your credit cards. So, to pay off the home equity loan, you must maintain a constant cash flow in your account.

b. Make a budget plan

You should plan a budget and calculate how you should pay off your other debts like medical bills, utility bills, student loans, payday loans, etc. While opting for a credit card consolidation method, you’ll make some free space on your monthly budget. But remember, do not overspend using your credit cards. If you do so, you may increase your total credit card debt again. So, limit your credit cards usage and use cash to make payments.

c. Ask your creditors to become more flexible

You might carry multiple credit cards from a single creditor. You may ask the creditor to become more flexible with the payment process and lower your interest rates. You may also request him to lower the amount of minimum payment per month.

Additionally, if your creditor can waive off late fees or change the billing cycle as per your flexibility, that would be great.

Conclusion

Consolidating credit card debt will be a great decision to lower your monthly expenses as well as to achieve your prime goals. But taking out a home equity loan to pay off credit card debts may put your house at stake. So, you may avoid risking your home equity just to make the credit card bills clear.

If you are not confident enough to pay off your credit card debts by using your own income, you may borrow money from the other resources mentioned above. Trust me, it’ll be quite dangerous to transfer your unsecured credit card debts into a more riskier secured mortgage debt.