We all know that credit card debt is considered “bad” due to its high-interest rates. On the other hand, mortgage seems to be the “good” option for its variable interest rates. But it’s hard to assume which option will be good for you and which one isn’t worthy. In fact, without thinking about the future, some individuals are deliberately refinancing their home. They’re using the money, taken out as a mortgage loan, in order to pay off their credit card debts. If you’re one of those people, then you need to realize that it’s not a good idea to use your existing home equity in order to clean off your credit card dues.
Why refinancing isn’t a wise decision
People are still confused whether or not using a mortgage loan to pay off credit card debts is right. For an example, mortgage interest is tax-deductible, but the interest you pay on credit cards is not at all tax-deductible. Mortgage interest rates remain normally within 5%, but credit card debt may cost you more than 30% as interest.
If you closely look on those benefits, you’ll surely push the green button towards calling a lender. You’ll use a cash-out refinance to wipe out those high-interest credit card debts once and for all. But you must think again, and need to verify those facts again. Though it sounds tempting, but there are some reasons why refinancing might be a bad idea for you.
1. Unsecured debt becomes secured debt - If you use refinance loan to pay off your credit cards, you’ll be converting your high-interest unsecured debts into a comparatively low-interest secured debt. Credit card debt is considered as an unsecured debt, as it has no collateral attached to it. If you fail to pay your dues, credit card companies can sue you, and put a lien on your properties. But normally they’ll avoid that much legal action unless you’ve borrowed a huge amount from them. The credit card company can’t take out your properties from you even if you are sued.
On the other hand, a mortgage is a secured loan which has a collateral attached with it. The mortgage lender will occupy your house if you fail to pay monthly mortgage payments on time. But it’s a lengthy process, it’ll take several months to foreclose the property. The mortgage lender has the legal right over your property, he can easily grab your ownership rights and you might have to encounter non-judicial foreclosures in some states.
Converting your unsecured debts into a highly secured debt is a big risk you are taking. You’re assuming that you’ve got the capability to pay off your refinance loan debt easily. But what if you can’t? Remember, if you can’t pay off the credit cards, you might be sued for that. But if you can’t pay off your mortgage debt, you’ll lose your house.
2. You’re paying your debts longer - The loan term of a mortgage or refinance loan is normally 30 or 15 years. You’ll have to pay your monthly payment throughout that time. So, practically you’re converting your credit card debt amount into a refinance loan and technically paying it for the entire duration of your refinance loan. Do you think it’s a good idea?
3. It’ll hamper your credit score - While opting a refinance loan for paying off credit cards, the average age of your accounts are getting shorter. It’ll initiate a new inquiry on your credit report. Both the above-mentioned factors can hamper your credit score significantly. You must understand that taking out a refinance loan will show up as a big debt burden to your credit report. This additional item can make problems for you to take out new loans.
4. Selling home becomes harder for you - When you’ll try to sell your home, without paying the mortgage in full, you can’t start the deal. You’re not the legal owner of the home till the lender owes a single penny from you. Also, you might have to pay a real estate commission, about 6% on the sales price.
By opting a refinance loan, you are stepping into a situation where you can’t accept any selling offer less than your current mortgage due. This is the main reason behind all the rejections of most refinance applications. The situation becomes worse if all of a sudden you need to sell your home or property values fall.
So, think twice before opting a refinance loan to settle your credit card debts. You may save yourself and your precious home before the situation gets out of your hand.