If you have credit card debt, you may want to pay it off as soon as possible. The longer you keep a credit card balance, the more interest you are likely to accrue. And that interest could be expensive.
In fact, if you own a home and have a lot of net worth, you might be considering taking out a home equity loan and use it to pay your credit card balance. But is it a smart decision?
How do home equity loans work?
If you have equity in your home, you can usually take out a loan against it, and that loan will be secured by your home itself. So let’s say your home is worth $300,000 and you owe $200,000 on your mortgage. This leaves you with $100,000 of equity.
If you owe $10,000 on your credit card, you could easily qualify for a $10,000 home equity loan depending on how much equity you have. In this case, you’ll use your loan proceeds to pay off your credit cards and then pay off your home equity loan in equal monthly installments.
The advantage of paying off credit cards with a home equity loan
The interest you will be charged on a home equity loan will generally be much lower than the interest rate you pay on your credit card balances. That’s why it makes sense to use a home equity loan to pay off credit card debt. If your credit cards are charging you an average of 15% interest but you qualify for a home equity loan at 7% interest, that’s a big difference.
Also, credit card interest rates may vary and your rate may increase over time. Home equity loans usually come with fixed interest rates. This not only makes your monthly payments predictable, but also helps ensure that your loan doesn’t cost more than necessary.
The downside of paying off credit cards with a home equity loan
A home equity loan is a secured loan, which means it is tied to a specific asset – your home itself. If you fall far enough behind on your mortgage payments, you could end up losing your home.
In contrast, credit card balances are not backed by any specific asset. If you fall behind on your minimum credit card payments, there will be consequences, like seeing your credit score take a huge hit and being unable to borrow money because of it. But falling behind on your credit card bills won’t put you at risk of losing your home.
Another thing you need to know is that you could pay closing costs on a home equity loan. The amount of these fees can vary from lender to lender, but this is another expense you could incur to make your credit card debt less expensive to pay off.
What’s the right call for you?
A home equity loan could make it easier to pay off your credit card debt, but if you decide to go this route, make sure you fully understand the risks involved. Also, make sure the payment plan you sign up for is one you can afford. If you’re able to keep your home loan payments manageable, you can eliminate credit card debt more affordably without putting yourself in danger of losing the roof over your head.
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