August 26, 2022 | home-buying
Using a HEL to Move Credit Card Debt
Did you know that home equity loans can be used for more than home renovations? Your home equity can be leveraged for all kinds of reasons, including college tuition, big purchases, and consolidating credit card debt.
In this article, we’re focusing on debt consolidation. By using a home equity loan, you can consolidate your payments into one monthly payment, take advantage of better interest rates, and even improve your credit score. However, this financial strategy is not without its own set of risks.
In this article, we’ll look at how you can use a home equity loan to consolidate credit card debt and the pros and cons of doing so.
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What is credit card debt consolidation?
If you have debt spread across several credit cards, there are several approaches that you can take to pay off your balances. You can start by paying off your highest interest credit card first— known as the “avalanche method.” Another way is to start with the smallest balance and work your way to the largest balance. This is commonly called the “snowball method”.
The third way is through debt consolidation.
With this method, you’ll take out one large loan to repay all of your credit card balances. Instead of paying off several cards at the same time, you’ll only have one loan payment to make each month.
How can you use a HEL to consolidate credit card debt?
People can consolidate debt using one of several financial products. Some may opt to transfer their balances onto another credit card with a lower interest rate. Others may search for a personal loan that can be tailored to match the monthly payment they can reasonably afford.
Homeowners can take advantage of another type of loan: a home equity loan.
Using a home equity loan to consolidate your debt is fairly straightforward. A borrower would:
- Assess debt to get a clear picture of how much they owe in total
- Apply for a home equity loan in the amount that will cover your total debts
- The bank will look at your finances, credit history, and home appraisal
- Once approved, use the funds to pay off each credit card
- Make monthly payments on the home equity loan until it is paid off
There are several advantages to consolidating your debt with a HEL. However, this method does involve using your home to secure the loan— which is why it is important to carefully consider the pros and cons before applying.
Pros and Cons of Using a Home Equity Loan for Debt Consolidation
Better interest rates
Your home is collateral for your debt
Only one bill to pay each month
HELs can be hard to qualify for
Provides a clear path to being debt free
You might be taking on more debt, which can hurt you financially if you do not make changes to your spending habits
May improve your credit score
Home equity loans come with some additional fees
Pro: You will get a better interest rate.
If there’s one thing credit cards are known for, it’s their exorbitant interest rates. Getting out of debt can be hard when your balance keeps growing, even if you’ve slowed your spending.
Home equity loans provide favorable fixed interest rates. A lower interest rate lessens the month-to-month burden and can save you thousands of dollars in the long run.
Pro: You only have one bill to pay each month
Juggling three or four— or even more— credit card bills each month can get exhausting. Instead of worrying about all of those due dates, balances, and minimum payments, a home equity loan streamlines the process.
With only one bill to pay each month, consolidation can take the stress out of paying off your debt.
Pro: It provides a clear path to being debt free
You may not be able to see the light at the end of the tunnel right now. The day that you become debt free may be a big question mark in your mind.
Moving your credit card debt to a home equity loan can provide a clearer picture of your finances and make it easier to budget each month. By having a set loan term, you have a day to count down to.
Pro: Your credit score may improve
Credit usage plays a big role in your credit score. If you have several cards maxed out, you will likely see improvement by paying off those balances. A higher credit score is often an unintended— but welcomed— consequence of debt consolidation.
Con: Your unsecured debt is now secured by your home
The main reason why a HEL has a lower interest rate than other types of loans is that it uses your house as collateral. This means that if you were unable to make payments on your loan for whatever reason, the lender could seize your home and sell it to recoup their losses.
Keep in mind that losing your home due to a home equity loan default is extremely rare— but it’s not impossible. Because of this possibility, it’s important to be sure that you can afford the monthly loan payments.
Con: Home equity loans can be hard to qualify for
Home equity loans are harder to qualify for than other types of loans or credit.
For starters, Texas has specific rules about using home equity—and the primary rule is that you have to have at least 20% equity in your house. You typically also have to have a decent credit history. Every lender is different, but maintaining a score of 620 or above is a good baseline. If your credit is in shambles because of your credit card debt, you may find it hard to qualify for this type of loan.
Con: If you don’t change your spending habits, you may find yourself in more debt
A home equity loan is still a loan. If you don’t change your spending habits and continue to rack up credit card debt, your balances can still spiral out of control.
Before taking out a HEL, make sure that you are committed to significantly reducing or eliminating your credit card spending.
Con: Home equity loans come with a few extra fees
No matter where you take out your home equity loan, you will likely have fees to pay beyond interest. Closing costs cover the underwriting and other administrative tasks associated with preparing and approving your loan. In Texas, these fees are capped at 2% of a loan's principal.
At Amplify, borrowers only pay a fixed $325 closing cost fee, regardless of loan amount— plus, no application fees!
Get Out of Debt
A home equity loan can be a good way to get out of debt, but it isn’t your only option. Be sure to explore other strategies and loans before committing to putting your home on the line. If you have more questions about how a home equity loan may be able to help you, don’t hesitate to reach out to a local loan officer at Amplify Credit Union.
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