Debt Consolidation Home Equity (HELOC)

Using a Home Equity Loan for Debt Consolidation

The largest debt you will face as a homeowner is your mortgage. With proper budgeting, and a steady income, making each and every mortgage payment on time and in full certainly sounds doable.

But life isn’t so easy – there are always plenty of other bills to pay and other debt to pay off like student loans, car loans, home renovations, repairs, and pesky credit card debt. When your dollars are already stretched to their limits, it can be difficult to make even the minimum payments.

Did you know that as a homeowner, you’re in a unique borrowing position? With the right approvals, you can borrow against the equity of your home with a home equity loan.

What is a Home Equity Loan?

A home equity loan is exactly as the name suggests – a loan secured against the equity in your home.

This type of loan is slightly different to a home equity line of credit (HELOC), which is a line of revolving credit with an adjustable interest rate. A home equity loan is a one-time lump-sum loan.

The loan amount is based on your mortgage value and the current value of your property. The Loan to Value ratio (mortgage value divided by property value) should not exceed 80% (or 90% with mortgage default insurance).

Being approved for a home equity loan is not as difficult as you may think. Lenders are generally comfortable adding to your current mortgage because they are safeguarded by the fact that your loan is secured against your home.

A Tool for Debt Consolidation

The primary bonus of a home equity loan is in its debt consolidation capabilities. Let’s say you have regular mortgage payments at a low interest rate of 4% over five years; plus, you have credit card debt at a 20% rate. By consolidating the two, a home equity loan will allow you to tackle your most pressing debt first – in this case the credit card debt. The amount you receive will be added to your mortgage term and rate.

How do I get a Home Equity Loan?

The best way of going about getting a home equity loan is through a mortgage professional to find out which options will work best for your needs.

Here’s what you should expect:

  • After a brief discussion about your financial situation, they will be able to tell you fairly quickly if you’ve been approved or not.
  • A full financial audit is not necessary but expect your credit score and history to be reviewed.

Advantages of a Home Equity Loan

  • You get cash in your hands to pay off outstanding high interest debts.
  • If you use your home equity loan to consolidate debts, your total monthly payments will go down.
  • By paying off outstanding debts you will improve your credit score.
  • The home equity loan can be spread out over the lifespan of your mortgage, which is often up to 25 years.
  • Tax deductions are available. If you put the proceeds towards an investment and make a return on that investment, you can deduct the interest paid against this return (but be sure to consult a tax specialist for advice on this).
  • The transaction can often be completed with 48 hours.
  • This tends to be the only option available if you have poor credit or a past bankruptcy.

Disadvantages of Home Equity Loans

  • You risk your home if you can’t pay the loan back.
  • Once you get the loan money, you may become tempted to buy more instead of pay off your debts.
  • When you borrow against your home you lose equity or ownership in the home, putting more back in the hands of your lender.
  • There are some fees associated with home equity loans – check with your lender for more details.
  • Home equity loans usually have to be taken against your principle residence, not any rental properties you may own.
  • They differ from a home equity line of credit, because once you use the money you have loaned it cannot be used again.
  • With a home equity line of credit you can borrow against your home and once it’s paid back you can use it again.

Related Topics

Leave a Reply