This calculator is designed to help determine whether using equity in your home to consolidate debt is right for you. Enter your credit cards, installment loans and any other debt you wish to consolidate by clicking on the 'Enter Data' button for each category. Then change the consolidated loan amount, term or rate to create a loan that will work within your budget. Click the "View Report" button for detailed results.
Our rate table lists current home equity offers in your area, which you can use to find a local lender or compare against other loan options. From the [loan type] select box you can choose between HELOCs and home equity loans of a 5, 10, 15, 20 or 30 year duration.
If you have been a homeowner for any length of time, you might have equity built-up that is available to you in borrowing scenarios. Lenders today have created many different types of products to take advantage of this equity, and all of them can be used strategically.
Three of the most common equity-based borrowing tools are:
A cash-out refinance, is really a refinancing of your existing mortgage with an additional lump sum added in, to be spent as you see fit. This can be viewed most simply as one loan replacing another.
Home Equity Loan
A home equity loan, is a lump sum payment as well, but it does not include your mortgage payment – it is in addition to your mortgage, so is sometimes referred to as a second mortgage. The first mortgage has a senior position in the capital structure, but if you default on either loan you could still lose the house.
Home Equity Line of Credit
A HELOC is similar to a home equity loan in terms of working alongside your existing first mortgage, but it acts more like a credit card, with a draw period, and a repayment period and is one of the more popular options with today’s homeowners.
Each option can be strategic, depending on your own circumstances – so understanding more about why you’d choose one over the other can help you to focus your research.
|Loan Type||Home Equity Loans||HELOC||Cash Out Refi|
|Interest Rate||Fixed||Adjustable (in most cases)||Fixed|
|Draw Money||Lump Sum||As needed, throughout draw period||Lump Sum|
|Tax Deductible Interest||No||No||Yes|
|Interest Only Payment||No||Yes||No|
|Interest On||Loan Amount||Amount Drawn||Loan Amount|
Each product uses the home as collateral. Each will offer the borrower money to be used at their discretion. They will tend to have different terms and rates, allowing consumers to choose the best fit for their unique needs and situation.
Though the specific uses of these products may overlap for consumers, there are smart ways to use each, based on their structure, costs and disbursements.
This article will focus on why it is often smart to use a home equity loan for debt consolidation, opposed to the more popular HELOC, or a cash-out refinancing.
It is common for consumers to have some amount of credit card debt spread out over different providers. They may also hold small loans, car payments, medical bills and other monthly obligations that spread-out their payments to multiple lenders. Through consolidation of these bills, most consumers can save money, and often pay-off the debts more quickly.
TransUnion recently reported that HELOCs are on the rise as a popular home equity tool, with over 2/3 of current homeowners able to secure one. The same study pointed to debt consolidation as one of the main uses for a HELOC, a fact supported by other consumer reports. However, a HELOC presents some degree of risk for the borrower, beyond the fact of using the home as securing collateral.
A HELOC has draw period where the borrower can spend up to their credit limit, followed by a repayment period. The interest rate during the draw period is typically variable, becoming fixed for repayment.
The variable interest rate is a factor of uncertainty that should make a consumer pause and compare. If used to consolidate credit card debt, it is true the HELOC’s interest rate may be lower than the cards’, but it is also subject to change during the draw period. It may be wiser – and cheaper – to lock in a lower fixed rate, sooner, using a different form of equity borrowing.
HELOCs are strategic for tapping smaller amounts as needed, like for financing renovation projects, or making college tuition payments every semester. HELOCs often allow you to pay back on the amount borrowed while still having available credit to tap, so it suggests strategic purchases that follow suit.
Check with different lenders for the specific terms they will extend to you – it may vary by lender.
With a cash-out refinancing, a mortgage holder refinances their mortgage with an additional lump sum to be used at their discretion. The lump sum amount is reached by tapping some or all of the built-up equity in the home, usually up to 80% of the home’s value.
While debt consolidation may be a consideration for the lump sum, it is important to realize that this type of loan is refinancing your mortgage for 15 to 30 more years. The reduced interest and single payment may still allow you to save money, but the time it takes you to pay off this loan may cause you to examine it more closely.
It is also possible that you maximize your equity, and then your home value falls – leaving you “underwater” on your mortgage, owing more than it is actually worth. Zillow reports that this trend is getting better and less than 10% of current owners are underwater, but it is a real concern for any shrewd and informed borrower.
Cash-out refinancing makes the most sense for a single large purchase, like a new roof, a wedding or a down payment on a second property. Keep in mind the payment will be spread out over 15 to 30 years as you essentially take on a brand-new mortgage, which may have larger payments than you had previously been making.
A home equity loan takes advantage of your earned equity alongside your existing mortgage. It is often referred to as a second mortgage, and though not as commonly or aggressively marketed as HELOCs, they are available to qualified homeowners in most areas.
While a home equity loan does create another monthly payment, it will not extend the length of your existing mortgage. It will have an interest rate considerably lower than the rates leveraged by most consumer debt options, like credit cards or medical bills.
Unlike a HELOC, home equity loans offer a fixed interest rate. Unlike a cash-out refinancing, a home equity loan does not have to last 15 or 30 years, more typical, would be a 5- or 10-year term. One of the attractive aspects of this type of loan is the ability to pay it back more quickly, as you can with a HELOC.
The benefits of a home equity loan for debt consolidation are simple:
Understanding more about the structure and potential benefits of equity financing allows you to make a better decision on leveraging your own earned equity.
Most experts will agree, using a cash-out refinancing for a large purchase (new roof, down payment on vacation home, a wedding) can be a good use of your equity. You cover the costs of a large, one-time expense and pay it off slowly over time.
A HELOC makes sense when you anticipate a series of expenditures over time, like financing a remodeling project, paying college costs annually, or a combination of similar needs. A common risk with a HELOC is to spend more than is safe and end up paying more than you intended. While a line of credit can be liberating, it must be used carefully.
A home equity loan can make sense when you have a single, larger expenditure in mind, like debt consolidation, handling an emergency or making a major purchase. It will offer you a comparatively low, fixed interest rate, a shorter term than a mortgage, tax benefits, and an opportunity to build your credit score.
The type of debt you are consolidating or covering also matters to you. For example, if you are paying off medical expenses, are they going to keep accruing, or are they handling a one-time expense? Same could be said for college or educational costs. Look at how your debt was or will be created, as well as the expected income to be forthcoming and it can lead you toward the best answer.
Avoiding PMI and Tracking Your Debt to Income Ratio
All equity borrowing cases should see you with a minimum of 20% equity maintained, thereby avoiding PMI and other potential fees. Your debt-to-income (DTI) level has to match the lender’s requirements, and will typically be 45% or less. Many advisors suggest maintaining 28% DTI or less, or they feel you may be carrying too much debt. Lenders might allow up to 43%, but rarely like to lend when the applicant’s DTI is over 43%.
Understand too, that each lending option may carry its own set of closing costs and associated fees. HELOCs may loudly offer low or no closing costs but may then leverage fees for non-use and monthly or annual maintenance. It may take less time to get into a HELOC but ultimately cost you more money in the long run.
How you will use the money from your equity financing should a primary driver in making your selection. Second to that, might be the costs implied (immediate and over time), the speed-to-completion, and your own ability to complete the loan as quickly as possible.
In the past interest on home equity debt was tax deductible, but it no longer is unless it is obtained to build or substantially improve the homeowner's dwelling. The Tax Cuts and Jobs Act of 2017 changed what home debt interest payments could be deductible against income. As of 2018 homeowners can deduct interest paid on first mortgages, up to a limit of the interest payments on the first $750,000 of debt. If the interest deduction is important to your finances then a cash out refi on your original mortgage may still qualify. Please note that debt which is not considered origination debt typically is not tax deductible.
HELOCs and home equity loans are typically approved in a 2 to 4 week period, with the approval process rarely taking more than 6 weeks. Mortgage refinancing typically takes at least a couple weeks longer.
Understanding Your Loan-to-Value Ratio
Most lenders will allow a borrower to borrow up to 80% of the equity in their home, with some borrowers who have pristine credit being offered up to 90% or 95%. The total debt amount which is secured by a property's value is called the loan to value (LTV).
If a house is worth $200,000 and has a remaining balance of $100,000 on the first mortgage then an 80% LTV would allow a borrower to extract up to $60,000 of equity from the home to have a total debt load of 80% of the property's appraised value.
Home equity loans are usually structured as a fixed-rate loan and typically last for a duration between 10 to 15 years. They can be understood as a second mini-mortgage which works similarly to the first mortgage, but is for a smaller sum of money.
The first mortgage has seniority over the second mortgage in the case of default, so second mortgages typically charge a slightly higher rate of interest. For example, if a 30-year conforming mortgage is available at 5.1% APR a 15-year second mortgage might charge an interest rate of 5.4% to 5.5%.
Home equity loans give the borrower the money upfront, but they also are immediately charged interest on the loan.
HELOCs can be thought of as credit cards which are secured by the equity in your home. Like credit cards, HELOCs charge a variable floating rate based on a referenced benchmark rate.
Homeowners can get approved for a specific limit & then draw on the line as needed. This can be helpful and convenient for people with lumpy income or seasonal expenses like a child's college tuition. Homeowners can then pay down the lines periodically
HELOCs are very popular with consumers, and lenders have created a variety of hybrid products that help expand the possibilities for affordable borrowing. Some offer fixed rates or a combination of variable and fixed. As this segment of the market grows you can expect more banks to offer additional lending products to cater to the consumer demand.
Homeowners use HELOCs for many of the same reasons they refinance first mortgages. Debt consolidation is the singular most popular use case for home equity lines of credit.
|Debt Consolidation||30%||Consolidate credit card debt & other higher interest forms of credit|
|Large Expense||29%||Paying for a large home renovation or other similar credit need|
|Refinance||25%||Replacing a prior HELOC with a better rate or other advantageous change of terms|
|Piggyback||9%||Used as part of a down-payment on a mortgage origination|
|Undrawn||7%||Line of credit on standby for a rainy day.|
As the Federal Reserve lifted interest rates after the 2017 Tax Cuts and Jobs Act many homeowners shifted their preference away from cash out refinancing toward using home equity lines. The COVID-19 crisis caused interest rates to fall, which in turn shifted demand back toward cash out refis and is likely going to lead to a record year for first mortgage originations.
In 2017 TransUnion published a study on the return of HELOCs which stated they anticipate there will be approximately 10 million HELOCs originated between 2018 and 2022, which will more than double the annual demand from 2014.
The COVID-19 crisis led to another round of zero interest rates policy from the Federal Reserve, along with Treasurys and mortgage backed securities purchases. These activities lowered interest rates to 5,000 year lows, which had many homeowners who may of considered a HELOC or a home equity loan to instead refinance at lower rates. The flip side to this sequence is that after home prices rapidly increased & inflation ran hot across the economy the Federal Reserve had to hike interest rates much quicker than they had in most other cycles. Now with interest rates in a more normal range at the end of 2023 & many homeowners having first mortgage debt in the 3% to 4% range the refinance market has dried up and homeowners will likely increase demand for HELOCs like TransUnion anticipated happening a few years earlier.
Other studies have also shown debt consolidation is the singular most popular use case for both home equity loans & lines.
|Type of Use||Loan||Line|
Before the passage of the 2017 Tax Cuts and Jobs Act homeowners were able to deduct interest on up to $100,000 of second mortgage debt from their income. The 2017 TCJA law changed how mortgage interest deductibility works. If the debt was incurred as origination debt then it is still deductible, whereas if the debt was incurred for other purposes it is not. The first mortgage on a home is considered origination debt & a mortgage which replaces the first mortgage via refinancing is also considered origination debt up to the limit of the debt balance on the first loan when the refi occurs. For second mortgage debt including equity loans & lines they are only considered origination debt if the debt is used to substantially improve or expand the property. Make sure you keep receipts for any major home improvement projects & talk with a financial advisor to better understand which option will best suit your needs.
Ultimately, how each person uses their home equity is a personal decision as much as one driven by circumstances. Some like the comfort of a HELOC, others may appreciate the lower, locked interest offered by home equity loans. It depends on the situation, and the individual’s goals.
The important thing is to research your available options. Seek the help of a trusted financial advisor and compare different lenders and on a range of equity loan products.
Any home equity situation can be bolstered by the applicant building their credit score, managing debt, and lowering their DTI ratio. While you research and compare options, pay down as much as you can and take steps to improve your personal credit…it will result in better offers at better terms.
A HELOC is the most popular option for debt consolidation historically, but that does not mean it is going to be the best option for you. There is strategy in understanding other equity tools and how they might apply to your situation and needs, so you can choose the best.
One size does NOT fit all here, and the winner is the consumer who takes the time to weigh and compare every potential option: its structure, its application, its strategy and its potential risk-to-benefit scenarios. The best news though, is that accruing home equity will open up all of these options for you to consider, and use to your advantage.
Explore conventional mortgages, FHA loans, USDA loans, and VA loans to find out which option is right for you.
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