If you’re struggling under the weight of debt, you’re not alone. The average U.S. household has over $100,000 in debt and spends roughly 10% of their income managing it. If you can relate to that, you might be considering options for making a bigger dent in your debts.
Using a home equity loan to pay off debt could help you in a number of ways, but it also comes with risks. Here, we’ll explore what the benefits of paying off debt with a home equity loan are, what risks you’ll face if you do so, and what alternatives you have if a home equity loan isn’t right for you. Let’s get right to it!
Benefits of Using a Home Equity Loan to Pay Off Debt
Let’s take a closer look at some of the top benefits of using a home equity loan to pay off your debt.
1. Dramatically Lower Interest Rates
Using a home equity loan to pay off debt can be a smart move because of the lower interest rates compared to credit cards and personal loans. Since your home secures these loans, lenders are more willing to offer lower rates. For instance, while credit card interest rates can soar around 24.37%, home equity loans typically have rates between 6-8%. This can save you a lot of money on interest payments over time.
2. Debt Consolidation for Simplicity and Convenience
Another perk is that you can consolidate all your various debts into a single payment. Instead of juggling multiple due dates and amounts for credit cards, personal loans, and other debts, you can merge them into one monthly payment. This simplifies your financial life and reduces the risk of missing payments, which can boost your credit score.
3. Potential Tax Benefits
Home equity loans also come with potential tax benefits. If you use the loan for home improvements, the interest you pay might be tax-deductible. This can make the loan even more attractive. However, it’s a good idea to talk to a tax advisor to understand how this applies to your situation and whether your state has unique rules.
The Risks of Using a Home Equity Loan to Pay Off Debt
Home equity loans can be used to pay off debt, but that opportunity doesn’t come without risk.
1. You Could Lose Your Home
The biggest risk with a home equity loan is that you could lose your home if you default. Since your house is collateral, failing to make payments can lead to foreclosure. This is a huge risk when compared to credit card debt, which doesn’t put your home on the line.
2. Long-Term Interest Costs
While home equity loans often have lower monthly payments because they spread over longer terms, this can mean paying more interest over time. If you stretch payments over 15 to 30 years, the total interest might end up being more than what you’d pay with shorter-term, higher-interest debt. It’s essential to look at both the monthly payment and the total interest when considering this option.
3. Closing Costs and Fees
Keep in mind, these loans come with various fees and closing costs, like appraisal fees and loan origination fees, which can quickly add up. These costs can range from $300 to $500 for an appraisal alone. These additional expenses should be part of your decision-making process since they can affect the overall savings from the lower interest rates.
Using a home equity loan to pay off debt can be a great strategy if you handle it wisely. The benefits include lower interest rates, simplified debt management, and potential tax perks. But remember, always consult your financial and tax advisors to make this approach work toward your overall financial goals and situation.
Factors You Should Consider Before Using a Home Equity Loan for Debt Repayment
There are several factors to think about when considering a home equity loan. Before you apply, take the time to:
Assess Your Financial Situation
Before diving into a home equity loan to pay off debt, take a good look at your financial habits. Have you tackled the behaviors that caused the debt in the first place? If not, you might end up in the same situation again.
Fixing the root cause of your debt — whether it’s overspending, not budgeting, or dealing with unexpected costs — is key to making a home equity loan a sustainable solution. If you don’t address these, you could end up in deeper financial trouble.
Understand the Amount of Equity in Your Home
To get a home equity loan, you need to know how much equity you have in your home. Equity is the difference between your home’s current market value and what you owe on your mortgage. You need significant equity, usually around 20%, to make a home equity loan worthwhile. If your equity is too low, the loan might not cover your debts, and you could risk losing your home if you can’t keep up with payments.
Related read: Learn how to calculate the equity in your home
Compare Interest Rates and Loan Terms with Existing Debt
Compare the interest rates and terms of the home equity loan with your current debts. Home equity loans often have lower interest rates than credit cards and personal loans, which can save you a lot on interest. However, consider the total cost, including fees and the length of the repayment period. Extending your debt repayment timeline might mean paying more in interest over time.
Consider Alternative Debt Repayment Options
Before deciding on a home equity loan, look into other debt repayment options. Personal loans, balance transfer credit cards, and even debt management plans might be better alternatives that don’t put your home at risk. Each option has its own pros and cons, so understanding these can help you make the best decision for your situation.
Alternatives to Home Equity Loans for Paying Off Debt
If a home equity loan doesn’t seem like the right fit, here are some other options to look into:
- Personal Loans: These can offer lower interest rates than credit cards and don’t require collateral. However, the rates are usually higher than home equity loans, and your eligibility depends on your credit score and income.
- Balance Transfer Credit Cards: These allow you to transfer your high-interest debt to a new card with a low or 0% introductory interest rate, which can last for as long as a year. This can save you on interest, but watch out for transfer fees and the risk of new debt once the introductory period ends.
- Bankruptcy: This can give you a fresh start by wiping out unsecured debt, but it has long-term negative impacts on your credit score and should be considered only after exploring all other options. It’s a serious step that can affect your financial life for years – so filing for bankruptcy should be your absolute last resort.
Is a Home Equity Loan Wrong for You? Turn to SKYDAN
SKYDAN’s residential sale-leaseback is an alternative to home refinancing that allows you to tap your equity without the downsides to home equity loans and HELOCs. With our solution, you can tap your equity without worrying about monthly payments, interest rates, credit scores, or your income.
How? Because we’re a real-estate investment company—not a bank or lender.
This means that we’re not interested in what traditional lenders are. Bad credit, high DTI, no income—none of it matters to us. Our main eligibility requirement is that you have equity in your home.
Here’s how our program works:
- SKYDAN buys your home, but you don’t move out.
- You then agree to lease the home back from us at a mutually-agreed upon amount, not exceeding 2 years.
- Rent is deferred until the end of the agreement, meaning no monthly payment is due.
- You may then purchase the home back (original price + deferred rent), OR sell the property at current market value, receiving all additional equity.
It sounds too good to be true, but it’s a safe program that genuinely helps people like you who are facing financial hardships, trying to get their debt under control, and manage unexpected expenses like healthcare costs. Ready to see if you qualify?