Using A Home Equity Line of Credit to Reduce Your Credit Card Debt
According to the latest Nilson Report, household debt has grown 147% in the past ten years while credit card debt has increased by 69%. One of the factors in credit card debt slowing to less than half of household debt is that consumers have borrowed against equity in their homes to pay down credit card account balances. 2005 Census statistics show that almost 20 percent of all owner-occupied housing units have a home equity loan or a home equity line of credit.
"In the right situation, a home equity line of credit (HELOC) can be a good option for reducing credit card debt," says Bill Hardekopf, CEO of LowCards.com. "The first thing you should do is review your past experiences with debt. If you chronically have problems paying down your credit card balance, going over the limit, managing your debt, or continuing to add to your balance, then a HELOC may be much more harmful than good for you.
"However, if you have made progress paying down your balance and have a plan to control your spending, then the HELOC may be a good option. The principle behind a HELOC and a home equity loan are the same--get the lowest rate you can, pay it off as soon as the terms allow, and get yourself out of debt so that you can pay cash and you don't have to use your credit cards again."
A HELOC allows you to borrow money, using the equity in your house as collateral. It is still a revolving loan, but the advantage is that home equity loans have a much lower rate than credit cards. You will still owe the debt from your credit cards but you are moving it and paying a lower interest rate for it. The best use of a HELOC is to save money on interest payments and then apply that saved money to pay off more of your balance and significantly speed up the process of paying off debt.
Advantages of a HELOC:
* Converts your loan from a high interest credit card loan to a loan with a much lower interest rate. If used correctly, can help you pay down your debt much faster.
* Shows fewer outstanding loans on your credit report.
* Depending on your specific situations, you may be allowed to deduct the interest for taxes because the debt is secured by your home.
Risks of using a HELOC:
* A HELOC is debt that you will have to pay off. Treat this as a one-time, get out of debt event. If you even suspect you don't have the discipline to put away the credit cards, don't use this. If you get into deeper financial trouble, or run up more debt, you are putting your home at risk.
* The loan is based on the value of your home, which is variable. Don't assume that the value of your home will never drop. The amount of equity is just a number on paper until you actually sell your home. If the value of your home drops, so does your equity.
* Just like a mortgage closing, there are also fees and paperwork for a HELOC. Fees include: property appraisal, application fee, and closing costs such as attorney fees, titles searches and mortgage preparation.
* Do not tap into it to live beyond your means, or to purchase travel or leisure products. Use it only for expenses with long lasting benefits like education, home improvements, or debt reduction.
* In most cases, there are also penalties for paying off the loan early. If you think you will move from your house in less than five years, this is probably not a good option for you.
Depending on your creditworthiness, a HELOC may let you borrow 75-85% of the appraised value of your loan, minus the amount you still owe on your first mortgage.
As an example, let's say the market value of your home is $100,000 and your outstanding mortgage is $30,000. 80% of the home's value ($100,000 x 80%) is $80,000. Subtract the $30,000 you owe. Hence, $50,000 would be the maximum amount you may be able to borrow.
"Keep in mind a HELOC is still debt, it just costs you a little less in interest. The goal is still to pay it down as soon as possible. The less debt you have, the better off you will be," says Hardekopf.
"In the right situation, a home equity line of credit (HELOC) can be a good option for reducing credit card debt," says Bill Hardekopf, CEO of LowCards.com. "The first thing you should do is review your past experiences with debt. If you chronically have problems paying down your credit card balance, going over the limit, managing your debt, or continuing to add to your balance, then a HELOC may be much more harmful than good for you.
"However, if you have made progress paying down your balance and have a plan to control your spending, then the HELOC may be a good option. The principle behind a HELOC and a home equity loan are the same--get the lowest rate you can, pay it off as soon as the terms allow, and get yourself out of debt so that you can pay cash and you don't have to use your credit cards again."
A HELOC allows you to borrow money, using the equity in your house as collateral. It is still a revolving loan, but the advantage is that home equity loans have a much lower rate than credit cards. You will still owe the debt from your credit cards but you are moving it and paying a lower interest rate for it. The best use of a HELOC is to save money on interest payments and then apply that saved money to pay off more of your balance and significantly speed up the process of paying off debt.
Advantages of a HELOC:
* Converts your loan from a high interest credit card loan to a loan with a much lower interest rate. If used correctly, can help you pay down your debt much faster.
* Shows fewer outstanding loans on your credit report.
* Depending on your specific situations, you may be allowed to deduct the interest for taxes because the debt is secured by your home.
Risks of using a HELOC:
* A HELOC is debt that you will have to pay off. Treat this as a one-time, get out of debt event. If you even suspect you don't have the discipline to put away the credit cards, don't use this. If you get into deeper financial trouble, or run up more debt, you are putting your home at risk.
* The loan is based on the value of your home, which is variable. Don't assume that the value of your home will never drop. The amount of equity is just a number on paper until you actually sell your home. If the value of your home drops, so does your equity.
* Just like a mortgage closing, there are also fees and paperwork for a HELOC. Fees include: property appraisal, application fee, and closing costs such as attorney fees, titles searches and mortgage preparation.
* Do not tap into it to live beyond your means, or to purchase travel or leisure products. Use it only for expenses with long lasting benefits like education, home improvements, or debt reduction.
* In most cases, there are also penalties for paying off the loan early. If you think you will move from your house in less than five years, this is probably not a good option for you.
Depending on your creditworthiness, a HELOC may let you borrow 75-85% of the appraised value of your loan, minus the amount you still owe on your first mortgage.
As an example, let's say the market value of your home is $100,000 and your outstanding mortgage is $30,000. 80% of the home's value ($100,000 x 80%) is $80,000. Subtract the $30,000 you owe. Hence, $50,000 would be the maximum amount you may be able to borrow.
"Keep in mind a HELOC is still debt, it just costs you a little less in interest. The goal is still to pay it down as soon as possible. The less debt you have, the better off you will be," says Hardekopf.
Posted by Lynn at
3:35 PM
links to this post
