Pros and Cons of Consolidating Debt with a Mortgage Refinance
If you've got a mortgage and you've got a lot of unsecured credit card debt, you may wonder if it makes sense to simply roll that debt into your mortgage through a refinance. After all, the interest rate on your mortgage is typically way, way lower than the interest rate on your credit cards, plus spreading that debt out over a 30 year mortgage may be much more manageable.
There are plenty of reasons to consider paying off credit card debt with a mortgage refinance, but just as many reasons why that may be a bad idea. If you're thinking about rolling your unsecured debt into your mortgage, here's what you need to consider.
Pros of consolidating debt with a mortgage refinance
Fewer monthly payments
This one's pretty obvious. By rolling your unsecured debts into a new mortgage, you’ll have fewer debts and debt payments to manage each month.
If you're feeling overwhelmed by the sheer number of debts you have to pay each month, any form of consolidation may make it easier to manage your finances. Having one payment (preferably on autopay) can simplify your monthly expenses and reduce the chance of missing payments by mistake.
Fixed end date
If you’re only paying the minimum due on a large credit card debt, you could literally be paying for decades. Most loans (and especially mortgages) usually have a clearly defined payment schedule, which spells out what you’ll pay, when it’s due, how much will go toward the principle, and when you’ll have the whole thing paid off.
And if you have a little extra available, you can always make additional payments toward the principle, which can have you paid off ahead of schedule. That kind of consistency can be really valuable if your finances are otherwise somewhat chaotic.
Lower interest rate
Depending on the market and the state of your credit, the interest rate for your mortgage will likely be lower than an unsecured loan and much lower than a credit card.
There's a pretty simple reason for that: your mortgage is secured by your house. That means that if something should happen and you stop making payments, the lender could potentially foreclosure on your home and use the profits from the sale to cover most or all of what you owed them.
Because of that safety net, a mortgage is less risky than lending money through a credit card. The higher the risk for lenders, the higher the interest rate. So on a per dollar basis, mortgage debt is typically less expensive to consumers than credit card debt.
Interest deductions
Rolling your unsecured debt into your mortgage could save you some money at tax time. That’s because you may qualify for a mortgage interest deduction, which would allow you to claim a reduced income based on the amount of interest paid on your mortgage.
When it comes to your taxes, however, don't make assumptions. It's always a good idea to work with a tax professional to ensure that you're claiming deductions that you actually qualify for.
Cons of consolidating debt with a mortgage refinance
Adding years to your debt
Mortgages are typically structured to pay off in 15 to 30 years. A refinance typically replaces the old mortgage with a new one, and likely resets the clock on your repayment plan.
You may not feel the unsecured debt after you’ve rolled it into your mortgage, but you’ll be carrying it with you for decades. And those extra years of paying your mortgage won't come cheap.
Best credit gets the best terms
If you’ve already missed a few payments and your credit score has suffered as a result, you may find it hard to qualify for the best possible refinance terms. Given how long you’ll be paying on your new mortgage, those rates can cost you a lot over time.
In other words, unless you qualify for prime rates, the financial tradeoff might not be what it appears.
Your home is on the line
This might be the biggest red flag of them all. Unsecured debt is costly, but it's typically not tied to any real property. Defaulting on a credit card debt may result in legal issues or wage garnishment, but you almost certainly won't lose the most valuable and important asset you own.
That's not the case with a mortgage. Defaulting on a mortgage can lead to foreclosure and ultimately the loss of your home. Rolling unsecured debt into a new mortgage may create a mortgage that's harder to pay, increasing the risk of default. If you're concerned about defaulting on your credit cards, paying those debts with a mortgage refinance may be trading one problem for a much worse one.
Less flexibility
Should your situation deteriorate and you struggle to make any kind of debt payments, you may find yourself considering bankruptcy. Bankruptcy is a perfectly acceptable option, but your options may be somewhat limited if your debts have been consolidated into a home equity loan or mortgage. You may not be able to discharge your debts without losing your home in the process. Be sure to consult with a qualified attorney if you’re considering bankruptcy.
Closing fees
Most mortgages include a variety of fees, which are either collected at closing or added to your mortgage debt. Keep in mind the costs of taking out a loan in the first place. There may be other forms of debt consolidation that are more affordable or come with fewer fees upfront.
If you're dealing with debt you may have multiple options to consider. MMI offers a free online financial analysis to help you find the option that works best for your unique circumstances. Start today and see which option will save you the most money.
