Refinancing your mortgage to consolidate debt can lower your overall interest rate and extend your repayment by rolling high-interest debts, such as credit card balances or personal loans, into your mortgage. However, you should also consider the risks, which can include higher costs, longer loan terms and the possibility of falling back into debt if spending habits don’t change.
A financial advisor can help you determine whether debt consolidation mortgage refinancing is a good fit for your finances.
Understanding Debt Consolidation Mortgage Refinancing
A debt consolidation mortgage refinance allows homeowners to combine multiple debts–such as credit card balances, personal loans and auto loans–into their mortgage by refinancing their current home loan. This involves taking out a new mortgage to pay off both your existing mortgage and other debts, leaving you with a single monthly payment. It’s especially appealing when the interest rate on the new mortgage is lower than the rates on your other debts, as it can help reduce the amount of interest you pay over time.
For example, if you owe $200,000 on your mortgage and have $50,000 in other debt, you may refinance for $250,000. The extra $50,000 would go toward paying off your high-interest debts, consolidating them into one mortgage payment at a potentially lower interest rate. This can simplify your monthly payments and free up cash flow.
However, it is important to note that refinancing to consolidate debt effectively turns unsecured debt into secured debt. Since your home serves as collateral for the mortgage, failure to make payments on the new loan could put your home at risk of foreclosure. Refinancing also often comes with closing costs and fees, which should be factored into your decision-making process.
Mortgage and Debt Consolidation Considerations to Make
When considering refinancing your mortgage to consolidate debt, there are several factors to take into account. Here are five to consider:
- Interest rates: Compare the interest rate on your current debts with the new rate you could get on a refinanced mortgage. If the new mortgage rate is significantly lower, consolidating debt could save you money. However, if rates have risen since you took out your original mortgage, refinancing might not be as beneficial as keeping your debts separate because you could end up paying more in interest.
- Loan term: Extending your loan term by refinancing may reduce your monthly payments, but it could also mean paying more in interest over the life of the loan. Consider how much longer you’re willing to make payments on your mortgage and whether the lower monthly payments outweigh the potential long-term costs.
- Closing costs and fees: Refinancing often comes with closing costs, which can range from 2% to 5% of the loan amount. Make sure you calculate these costs and determine whether the savings from consolidating your debt will offset these fees.
- Impact on home equity: By borrowing more against your home’s equity, you’re reducing the amount of equity you have in your property. This can limit your financial flexibility in the future, especially if home values decline or you want to borrow against your equity later.
- Risk of foreclosure: Refinancing to consolidate debt turns unsecured debts (like credit cards) into secured debt, with your home as collateral. If you’re unable to make the new mortgage payments, you risk losing your home to foreclosure, making this option more risky than other debt repayment methods.
Alternative Options
If you’re hesitant about refinancing your mortgage to consolidate debt, here are four other options you could consider:
- Debt consolidation loan: A debt consolidation loan allows you to combine multiple debts into one new loan, often with a lower interest rate. Unlike mortgage refinancing, this option does not put your home at risk, but it may come with higher rates than a mortgage loan, especially if your credit score is low.
- Balance transfer credit card: If your debt is primarily credit card-related, a balance transfer credit card with a 0% introductory interest rate could help you pay off your debt more quickly without accumulating interest. However, these offers are typically limited to a certain time frame, and there may be fees associated with the transfer.
- Home equity loan or line of credit (HELOC): If you want to use your home’s equity without refinancing, a home equity loan or HELOC could be an option. These loans typically have lower interest rates than credit cards, but they still involve using your home as collateral, so there is a risk of foreclosure if you fall behind on payments.
- Debt management plan: A debt management program, often offered by credit counseling agencies, involves working with a counselor to create a repayment plan and negotiate lower interest rates with your creditors. This can be a good option if you need help organizing your debts without taking out new loans.
Bottom Line
Refinancing a mortgage to consolidate debt could help if it lower your interest rates, simplifies your payments and frees up cash flow. However, it’s important to consider risks carefully, such as turning unsecured debt into secured debt and the potential impact on your home equity. Before deciding, compare the benefits and drawbacks of mortgage refinancing with other debt consolidation options, and assess your long-term financial goals.
Tips for Homeowners
- A financial advisor can work with you to determine whether you should refinance your mortgage or manage debt. Finding a financial advisor doesn’t have to be hard. SmartAsset’s free tool matches you with up to three vetted financial advisors who serve your area, and you can have a free introductory call with your advisor matches to decide which one you feel is right for you. If you’re ready to find an advisor who can help you achieve your financial goals, get started now.
- If you want to know how much a mortgage could cost you, SmartAsset’s mortgage calculator could help you get an estimate.
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