I have been working with clients as a mortgage broker for many years. I've also worked with 2 of Canada's largest banks and I hear this question from clients all the time.. "Should I refinance my mortgage to pay off credit card debt?"
There is no clear cut answer to this question, it depends on your situation. The advantage to paying credit card debt with a mortgage refinance is reduced overall payments and reduced overall interest costs. The disadvantage are the fees and costs and potential mortgage penalties to refinance your mortgage.
To consider this option, it's best to evaluate all the choices available to you. Once you review your choices, their advantages and disadvantages, then you can make a more informed decision. Choose the option that is best for you.
To pay off your credit card debt, you have three main choices:
- Apply for a personal loan to pay off the credit cards and other debt (also known as a consolidation loan)
- Create a budget and a plan, then start paying off your credit cards and other debt without any new financing
- Refinance your mortgage to pay off credit card debt
Let's review the advantages and disadvantages of each of these options.
Apply For A Personal Loan To Pay Off Credit Card Debt
Applying for a personal loan is the cheaper option compared to refinancing your mortgage. There are no legal fees, there are no penalties and you don't have to pay for an appraisal. To set up a loan, there are few costs. If your lender wants to use a vehicle as collateral, then they might charge you a fee to register an interest in that vehicle.
Depending on how much debt you owe with credit cards, a personal loan may be the best option. Let's assume you have credit card debt of $30,000. Your minimum payments would range from $600 to $900 per month.
If your credit cards charge an interest rate of 19% then your monthly interest costs are $475. If your interest rates are at 24%, then your monthly interest costs are $600. You aren't going to pay off this debt very fast.
A consolidation loan for $30,000 could pay off all this debt and give you a payment of $587 per month for 5 years at 6.5%. If they interest rate is higher, the payment would be $668/month at 12% over 5 years.
The payment is very similar, but now you know you will have the debt paid after 60 months and you can pay extra toward the loan without penalty, if you have extra money.
The interest rate charged on the loan would typically depend on your credit and whether or not you have collateral for the lender. If you don't have collateral a lender might amortize the loan over a shorter period of time. 4 years instead of 5 years.
For $30,000 at 6.5% over 4 years, the payment would be approximately $712 per month. For $30,000 at 12% over 4 years, the payment would be approximately $790 per month.
This shorter amortization has a higher payment, but the overall interest you pay toward the debt is reduced because of the quicker time frame to pay the loan out.
To apply for a personal loan online, I recommend a company called Borrowell they offer quick quotes and best rates for each client's specific situation. Apply for a personal loan through Borrowell by clicking this link.
If you don't qualify for a loan, or want to try to pay your credit cards off by yourself, then there is a strategy that works well for this option too.
Create A Budget, A Plan, Then Start Paying Off Your Credit Card Debt Without Any New Financing
If you want to try to pay off your debts on your own, without applying for credit, it's definitely possible. I have helped clients to reduce their debt quite significantly without new financing like a loan or mortgage.
The strategy to pay off your is a little counter intuitive to what people think. To maximize your efforts you must pay off the lowest balance credit cards first and work your way up. Some people think that they should pay off high interest rate cards first, but this doesn't work as well.
Step 1. List all your credit cards and other debt, if applicable, from highest balance to lowest balance. Under that debt amount, list the payment amount. If you have a mortgage, that should be listed first. Your mortgage is probably your largest debt.
Step 2. For the next month, pay only the minimum payment to all your debt except the smallest balance debt. For the debt with the balance and probably the smallest payment, make double the minimum payment. If you can pay more than double, then pay as much as you can.
Step 3. Every month, make the minimum payments on all your debts. For the smallest payment, make as large a payment as you can afford on this debt (credit card) until you pay it off.
Step 4. Once you have paid off the smallest credit card (smallest debt) then take all the money that you allocated to paying this card off and direct it to the next largest debt. All other credit cards and debts should still only receive minimum payments.
As you progress, you will find that you can make bigger and bigger payments to your smallest debts. These debts will start get paid off faster and faster. As you pay off your smaller debt, all these payments are directed to your next smallest debt.
I have seen clients pay off large debt obligations in under 17 months with this strategy.
In fact, if you write out everything on a monthly bases. You are tracking it. You will get excited about your progress. You will feel good when you make the double payment every month. You will also find extra money. It comes to you from places you wouldn't even expect. This works. I've had clients rave about their experiences.
Give it a try. I would love to hear your feedback!
If your credit card balances are big and you want to free up some cash flow, then a mortgage refinance might be a better option.
Refinance Your Mortgage To Pay Off Credit Card Debt
Sometimes, it is better for your to refinance your mortgage to pay off credit cards, rather than paying these credit cards yourself or arranging a personal loan.
If you credit has been bruised, you may not qualify for a loan. If you have changed your source of income, you may not qualify for traditional financing. A mortgage refinance to pay off credit cards may be a better option.
When you set up a mortgage, whether you refinance your home to pay off credit cards or for another reason. There is a process and there are some costs to set all this up.
The costs to refinance could include:
- legal fees
- appraisal fees
- lender fees
- broker fees
- mortgage penalties
When the mortgage is set up the lender will want to make sure the documents are registered on your home properly. A lawyer/solicitor, a notary or title company would be required and could cost from $700 to $2,000.
Traditional lenders can only provide financing up to 80% of the value of your home. An appraisal would be required to determine the value of your home and would cost approx $350.
Private lenders, also known as alternate lenders or B lenders or hard money lenders, typically charge a lender fee ranging from 2% to 5% of the mortgage amount requested.
A mortgage broker will get paid by traditional lenders and often will not charge you an extra fee to facilitate a mortgage with a traditional lender.
If the broker has to facilitate a mortgage through a private lender, then you will pay a professional fee ranging from 2% to 5% of the mortgage balance requested.
If you pay out your current mortgage during the middle of the term, then you will likely pay a penalty. This penalty could range from a few thousand dollars to ten thousand or more. To avoid this penalty, you could opt for a second mortgage.
I talk about the different mortgage options available in this article called, "How Much Mortgage Can I Borrow Against My Home"
As you can see from the summary above, to pay off credit cards debt by refinancing your home, you would pay set up fees of approximately $2,000 to $2,500. If you choose the private mortgage option, there could be additional broker/lender fees of $4,000 to $8,000.
Choosing a private mortgage option is a short term solution. You should have a plan to pay this out within a year or two.
Let's look at some situations where choosing to refinance your home to pay off credit card debt was a good option.
Client Examples of Paying Credit Card Debt With A Mortgage
One client I worked with was self employed, she had lost a large contract 6 months previous. Credit cards were close to max. Her husband lost his job a year ago, started working again, but his income was half what they were used to. She had prospects of a new contract, but it wasn't secured yet.
First Mortgage Refinance Was The Best Option
In this case, we were able to refinance her home with a traditional lender. Their credit was not yet bruised, they had been making all their payments but might not be able to cover all the bills next month.
They set up a new first mortgage. They paid off all their loans and credit cards totaling $53,000, they borrowed an extra $30,000 to cover some upcoming expenses. The new mortgage payment was just $200 per month more than they were paying before. The payment was affordable for them using his income only.
When everything was finalized, they felt so much relief. Yes, the mortgage was higher by $85,000 (legal and appraisal fees were also included). Their payments were manageable. Now she feels less stress as she hunts for more contracts for her business.
Second Mortgage Was The Better Option
Another client chose to refinance to pay off credit card debt. If they paid off their current mortgage, the penalty was over $8,000. This client was recently laid off from work. He found a new job but his income wasn't guaranteed. He was casual, earning close to what he earned before when working, but didn't always get full time hours. His wife also worked but part time but couldn't work full time because their kids were little and daycare was too expensive.
They had used credit cards to renovate their home, then her father became ill and they spent quite a bit traveling out of town to help him. No income was coming in when they were away.
They didn't qualify for a personal loan, a second mortgage was a better option and the mortgage penalty was too high. They consolidated the credit cards along with a high interest personal loan. Total payments were reduced from $1,500 per month and to under $700 per month.
In a little over a year, he should be full time with his new company. Their mortgage will be up for renewal and the there will be no penalty to pay it off. Their credit will improve so that they can set up a new mortgage with low interest rates and further reduce that extra $700 per month payment.
These clients now have a plan and a way to bring down their debt and get back on track.
Every situation is different. Every client is different. Choosing to refinance your mortgage to pay off your credit card debt is a very individual analysis. Before you jump into something that can be costly, review your options.
I have given just 2 examples of client situations where it's a good option to refinance your home to pay off credit card debt. I could probably give more examples where it's best. I can also give examples where a personal loan would be much better. Selling your home, might be the best option.
If you want to find out which options is best for you, then connect with us. Call, text, email or select the apply now button at the top.
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