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Should You Use a Home Equity Loan to Pay Off Credit Card Debt?

Should You Use a Home Equity Loan to Pay Off Credit Card Debt?
© Provided by Motley Fool

By Maurie Backman, Motley Fool

If you're sitting on credit card debt, you may be eager to pay it off as quickly as possible. The longer you carry a credit card balance, the more interest you're apt to accrue. And that interest could get expensive.

In fact, if you own a home and have a lot of equity in it, you may be thinking of taking out a home equity loan and using it to pay off your credit card balance. But is that a smart move?

Read More: What happens if you go over your credit card limit?

How do home equity loans work?

Home equity refers to the portion of your home you own outright. It's calculated by taking the market value of your home and subtracting your mortgage balance.

If you have equity in your home, you can generally 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. That leaves you with $100,000 of equity.

If you owe $10,000 on your credit cards, you might easily qualify for a $10,000 home equity loan based on the equity you have. In that case, you'd use your loan proceeds to pay off your credit cards and then pay off your home equity loan in equal monthly installments.

The upside of paying off credit cards with a home equity loan

The interest you'll be charged on a home equity loan will generally be much lower than the interest rate you're paying on your credit card balances. That's why using a home equity loan to pay off credit card debt makes sense. 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 can be variable and your rate can rise over time. Home equity loans commonly come with fixed interest rates. That not only makes your monthly payments predictable, but helps ensure your loan doesn't end up costing more than necessary.

Read More: Is Credit Card The Right Way To Finance Big Purchases?

The downside of paying off credit cards with a home equity loan

A home equity loan is a secured loan, which means it's tied to a specific asset -- your home itself. If you fall far enough behind on your home equity loan payments, you could end up losing your home.

By contrast, credit card balances aren't secured by a specific asset. If you fall behind on making your minimum credit card payments, there will be consequences, like seeing your credit score take a massive hit and being unable to borrow money because of that. But falling behind on your credit card bills won't put you at risk of losing your home.

Another thing you should know is you might pay closing costs on a home equity loan. The amount of those fees can vary from lender to lender, but it's another expense you might incur in the course of making your credit card debt less expensive to pay off.

What's the right call for you?

A home equity loan could make your credit card debt easier to pay off, but if you're going to go this route, make sure you 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 equity loan payments to a manageable level, you can knock out your credit card debt more affordably without putting yourself in danger of losing the roof over your head.

See more at Motley Fool




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Finance Magazine: Should You Use a Home Equity Loan to Pay Off Credit Card Debt?
Should You Use a Home Equity Loan to Pay Off Credit Card Debt?
Do you have a credit card debt? There could be a more cost-effective approach to pay it off.
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