Falling behind on debt payments can have serious consequences. For starters, your credit score could take a dive if payments are reported late (typically after 30 days), which makes it more difficult to borrow.
If you’re having a hard time keeping up with your debt payments, consider consolidating your debt into a single monthly payment. Doing so could make it a lot easier to keep track of your debt and boost your overall financial health – and along the way, it will minimize your stress too.
If you’re a homeowner, you have a number of options for consolidating debt, including a home equity loan, a home equity line of credit (HELOC) or a cash-out refinance. Get up to speed on how to use these options – as well as the pros and cons of each one – so that you can make an informed decision.
What Is Debt Consolidation?
Debt consolidation allows you to combine multiple debts into a single monthly payment. You may have several credit card bills, for example, that you have to pay every month. Keeping track of different due dates and minimum payments can be challenging: You run the risk of missing payments, which could cause a drop in your credit score. Plus, credit cards often carry high interest rates, so you end up paying more for your debt the longer you carry those balances.
When you consolidate debt, you combine all of those payments into a single payment. The funds you access from a loan or line of credit are used to pay off your various debts, and you’re left with one payment that’s easier to manage.
For homeowners, some of the most common options for consolidating debt involve tapping your home equity.
Compare Home Equity Offers From Verified Lenders:
How To Use A Home Equity Loan For Debt Consolidation
If you own a home and have some equity – meaning that your home is worth more than the principal you owe on your mortgage – you may be able to borrow against it in the form of a home equity loan.
A home equity loan works like any other fixed-rate loan: You borrow a lump sum of money from a lender – in this case, enough to pay off your various unsecured debts. From there, you’ll make a single monthly payment on your home equity loan until the balance is completely paid off.
Pros And Cons Of Using A Home Equity Loan For Debt Consolidation
There are benefits and drawbacks to choosing a home equity loan to consolidate debt.
Pros:
- You may get a lower interest rate than what you’re currently paying on your debt, especially if you consolidate different credit card balances into a home equity loan.
- Your monthly payments will be fixed, making them easier to manage on an ongoing basis.
Cons:
- Your home is used as collateral for a home equity loan, so if you fall behind on your payments, you could eventually risk losing your home to foreclosure.
- You’ll typically pay closing costs to put a home equity loan in place. These will likely range from 3% to 6% of the loan amount; for example, if you’re borrowing $60,000, you’ll pay roughly $1,800–$3,600 in closing costs.
What’s Your Goal?
Buy A Home
Discover mortgage options that fit your unique financial needs.
Refinance
Refinance your mortgage to have more money for what matters.
Tap Into Equity
Use your home’s equity and unlock cash to achieve your goals.
How To Use A HELOC For Debt Consolidation
A HELOC, or home equity line of credit, is similar to a home equity loan in that you’re borrowing against the equity you already have in your home. Unlike a home equity loan, however, a HELOC doesn’t involve a lump sum loan with a fixed monthly payment.
Instead, a HELOC is a revolving line of credit, which means you can draw funds from it as needed, up to a certain amount. During your HELOC’s draw period, you can borrow money up to your HELOC limit; you’re typically only responsible for making interest payments on the amount borrowed during the draw period. Once the draw period ends, you have to repay the money you’ve borrowed (principal and interest).
If you’re consolidating debt, ideally you’d draw enough from your HELOC to pay off your current debts – but not more. Otherwise, instead of just consolidating your debt, you could end up increasing your debt.
Pros And Cons Of Using A HELOC For Debt Consolidation
Consider these factors when thinking about pursuing a HELOC for debt consolidation.
Pros:
- You may get a lower interest rate on a HELOC than the current interest rates on your debt.
- You get flexibility, since HELOCs give you a revolving line of credit over what’s often a lengthy draw period (typically up to 10 years) before repayment begins.
Cons:
- Unlike home equity loans, most HELOCs have variable interest rates, so you won’t have the stability of fixed monthly payments.
- Your home is used as collateral for a HELOC, so if you don’t make your payments, you risk losing it to foreclosure.
- Closing costs can make a HELOC more expensive than you think. Costs vary, but you can expect to pay from 2% to 6% of the total amount in closing costs. Although some lenders offer HELOCs with no closing costs, that doesn’t mean you won’t pay more in other ways. Such lenders may charge a higher interest rate instead, or charge penalties if you pay off the loan too quickly.
Get A Home Equity Loan Online
Let’s match you up with lenders who can help with your unique financial situation.
How To Use A Cash-Out Refinance For Debt Consolidation
With a home equity loan or HELOC, you don’t get a new mortgage – but with a cash-out refinance, you do.
A cash-out refinance lets you borrow more than your existing mortgage balance, allowing you to access equity in your home. In this scenario, you use some of the new mortgage to pay off your old mortgage, and the rest of the funds are yours to use as you please. You make payments on the full amount borrowed (as the equity you borrow rolls into the principal balance).
Let’s say you currently owe $200,000 on your mortgage and have a home worth $350,000. Let’s also say you owe $50,000 on various credit cards.
With a cash-out refinance, you could apply for a new mortgage worth $250,000. The first $200,000 would be used to pay off your existing mortgage, and the remaining $50,000 goes toward your credit card debt. From there, you’d make a single monthly payment on your new $250,000 mortgage.
Pros and Cons of Using a Cash-Out Refinance for Debt Consolidation
A cash-out refinance could be a good option for consolidating debt, but there can be downsides, too.
Pros:
- You may get a lower interest rate on a cash-out refinance than what you’re currently paying on your debts.
- Cash-out refinance rates are often lower than rates on home equity loans or HELOCs because they are first-lien mortgages.That’s because it’s a primary mortgage, and your primary lender is first in line to be repaid in the event of foreclosure.
- Your monthly mortgage payments can be fixed.
Cons:
- You may have larger mortgage payments after rolling equity into a new principal balance, and if you fall behind, you risk losing your home.
- You may have a longer repayment term after doing a cash-out refinance than you did with your old mortgage, which could end up costing you more in interest in the long run.
- Since a cash-out refinance is like a new mortgage, you’ll have to pay closing costs – again, generally 2% to 6% on your entire loan amount. That could be substantial, since you’re borrowing enough to cover both your existing home loan plus your current debt.
Turn Your Home Equity Into Cash
See how much you could get.
How To Consolidate Debt Without Tapping Your Home Equity
Tapping your home equity isn’t your only option for consolidating debt. If you’re not comfortable going that route due to the risk of losing your home, you could use a personal loan to consolidate debt instead.
A personal loan is an unsecured loan – meaning the lender doesn’t ask for collateral – that lets you borrow money for any reason. Lenders will use factors like your credit score and income to see if you qualify.
A personal loan may offer a lower interest rate on your debt than what you’re currently paying. Keep in mind, though, that while falling behind on personal loan payments won’t cause you to lose your home, there can be other consequences – namely, having your credit score take a hit, having wages garnished, or even having bank accounts garnished. This could make it very difficult to borrow any more money until it improves.
Another option for consolidating debt without tapping home equity is a balance transfer onto a new credit card. Often, balance-transfer cards offer a 0% introductory interest rate for their promotional period, which means you don’t rack up any interest over that period of time.
However, balance transfers with a 0% introductory rate can be risky. If you don’t pay off your balance by the end of the promotional period, the interest rate on your credit card debt typically rises to the card’s standard APR, making it more difficult for you to keep up. Plus, the more money you owe on a credit card, the more it can hurt your credit score – even if you’re making your monthly payments on time.
The Bottom Line: Weigh Your Options On How To Consolidate Debt
If you’re a homeowner looking to streamline your debt payments and make them more manageable, a home equity loan, HELOC or cash-out refinance could all be good strategies. Each option has its benefits and drawbacks, so it’s important to review them carefully to see what works best for you.
Once you decide on a course of action, shop around with different lenders to compare rates and terms. A little research could save you money both up front and in the long term – all with the goal of paying off that debt for good.
Ben Shapiro
Ben Shapiro is an award-winning financial analyst with nearly a decade of experience working in corporate finance in big banks, small-to-medium-size businesses, and mortgage finance. His expertise includes strategic application of macroeconomic analysis, financial data analysis, financial forecasting and strategic scenario planning. For the past four years, he has focused on the mortgage industry, applying economics to forecasting and strategic decision-making at Quicken Loans. Ben earned a bachelor’s degree in business with a minor in economics from California State University, Northridge, graduating cum laude and with honors. He also served as an officer in an allied military for five years, responsible for the welfare of 300 soldiers and eight direct reports before age 25.
