If you’re facing thousands of dollars in consumer debt, you might be wondering: Should I take out a home equity loan to pay it off? Here are some things to think about to help decide if taking out a home equity loan to pay off debt is the right choice for you...
The following post is by MPFJ staff writer, Laurie Blank. Laurie is a wife, mother to 4 and homesteader who blogs about personal finance, self-sufficiency and life in general over at The Frugal Farmer. Part witty, part introspective and part silly, her goal in blogging is to help others find their way to financial freedom and to a simpler, more peaceful life.
If you’re facing thousands of dollars in consumer debt, you might be wondering: Should I take out a home equity loan to pay it off?
While I can’t advise you as to the right choice for your situation, I can give you some things to think about. Taking out a home equity loan is a big deal.
After all, you are increasing the lien amounts on your home. Here are some things to think about to help decide if taking out a home equity loan to pay off debt is the right choice for you.
Taking a Home Equity Loan to Pay Off Debt
There are several pros and cons to think about as you consider consolidating debt via a home equity loan. First, we’ll talk about the pros. It’s always better to hear good news first, right?
The Pros
There are three important positives to consolidating your debt using a home equity loan. Let’s talk about them now.
You’ll Have One Convenient Payment
One reason you might like the idea of consolidating your debt is that it’ll make bill-paying time much easier. You’ll simply make one payment to the bank and that’s it. No more writing out four, five or six different checks each month. No more scheduling online payments. Just a “one and done” deal.
Paying off debt sure feels less overwhelming when you’re facing one creditor instead of several.
You May Be Paying Less Interest
Another benefit to consolidating debt using a home equity loan is that you could be paying less interest. Home equity loan rates are often quite a bit lower than credit card interest rates. A debt consolidation plan could save you thousands of dollars of interest paid to banks over the long haul.
You Could be Eligible to Deduct Your Paid Interest
You might be thinking it would be nice to be able to deduct the interest paid on your home equity loan. Why not take advantage of the tax laws and save yourself some cash, right?
Unfortunately, this isn’t a true “positive” of taking out a home equity loan to consolidate debts. In December of 2017, The Tax Cuts and Jobs Act of 2017 was enacted.
This act suspends (from 2018 to 2026) the deduction of interest paid on home equity loans unless the proceeds from the loan were used to buy, build or substantially improve the home that secures the loan.
Unfortunately, this disqualifies the deduction of interest from home equity loans used to consolidate debt. See this IRS article for more information.
So, although there are a couple of benefits to consolidating using a home equity loan, there are also some negatives.
The Cons
Depending on your situation and your personality, there could be some serious downsides to consolidating your debt with a home equity product.
You May End Up Accumulating More Debt
Most consumer debt happens due to a person or family living beyond their means. If you haven’t determined – and conquered – what was causing you to live above your means, you may end up accumulating even more debt.
Once your home equity loan is established and credit card debts are paid off, you’ll start receiving enticing offers from those credit card companies.
They’ll be dismayed at the fact that you no longer owe them money. So, they’ll start sending zero interest and other offers in hopes of getting you to rack up debt.
This can be very tempting. It might seem like the perfect time to replace your car or go on a vacation. After all, you won’t be paying any interest on the loan, so why not?
I don’t recommend consolidating debt unless you’ve got a serious handle on your spending and budgeting. Otherwise, you could end up with a home equity loan and more credit card debt.
You Could Pay More Interest Than You Need To
Home equity loans often have lower interest rates than credit cards. However, with a little detective work, you could end up paying zero interest on your credit card debts.
Many credit card companies offer introductory zero-interest periods on balance transfers. By transferring your credit card balances to a zero-interest offer, you could be paying “zero” interest instead of “less” interest.
Your New, Lower Payment Could Entice You to Drag Out the Loan Period
Another potential detriment to using home equity products to consolidate is that you could be encouraged to drag out the loan term. Home equity loans often have longer loan terms.
If you choose to not pay the loan off early, you could have it for ten years, fifteen years or longer. That could negate any interest savings you were hoping to get by consolidating.
You Could Be Putting Your Home at Risk
Another con of using a home equity loan to pay off debt is that you are risking your home. If for some reason you can’t pay your payments on the loan, the bank has the right to seize your home.
That’s an important fact to think about before taking the risk.
Summary
At the end of the day, only you can decide if using a home equity loan to consolidate debt is the right choice for you.
My advice? Whatever route you choose, just pay the debt off as soon as possible. Consumer debt is the mortal enemy of financial independence. The sooner you get rid of it, the better your chances for financial freedom.
***Photo courtesy of https://www.flickr.com/photos/pasa/25793013564/in/
