Use Your Home Equity to Pay Off Credit Card Debt

Posted May 02 2017
by PenFed Team
happy male at home

There are many benefits of having a credit card. You can build your credit rating, shop securely thanks to credit card consumer protections, make emergency purchases if needed, and even earn cash rewards.

What’s not so good about credit cards? Debt. 

Ideally credit card balances should be paid off quickly – if not all at once, then over a few months. While this might not always be possible, if you are charging more than you’re paying off, you might want to examine your budget and spending habits. 

Remember: Carrying a high balance on a credit card costs you more interest payments and impacts your credit score.

Options Are Available

If you have a high credit card balance on one or more cards, several options are available to help you reduce the costs. You could transfer these balances to a zero-interest card, or apply for a bill consolidation loan. And if you’re a homeowner, you have a third option.

If you have equity in your home, you may want to consider a cash-out refinance to pay off that debt.

Home equity is the amount you owe on your mortgage subtracted from the current market value of your home.

Is the Home Equity Option Right for You?

How do you know if using your home’s equity is right for you? 

First, determine how much debt you want to pay off - and what you’re paying in interest. 

Next, estimate the amount of equity in your home and current interest rate, then subtract the refinancing costs and fees. 

Use these calculators to help.

A cash-out refinance creates a new mortgage loan that is larger than your existing one. You’ll receive the difference between the two loans (equity) after fees and closing costs.

Here’s an example.

Let’s say your home’s current market value is $250,000 and you owe $150,000. You’d have approximately $100,000 in equity ($250,000 - $150,000). 

Let’s also use the average U.S. household amount of credit card debt of around $16,000 according to a December 2016 NerdWallet report. You’d need about $16,000 in equity, but we’ll round up to $20,000. 

Your new mortgage would be $170,000 (the $150,000 you still owe plus the $20,000 in equity). At closing you’d receive the $20,000. The actual amount may be less because of fees and closing costs.

First Things First: Pay-Off the Debt

After you receive the money, your next step is to pay off the credit card debt. Do it quickly and avoid the temptation to use the money for something else. 

Examine Your Spending

Once your debt is paid, it’s time to take a good look at your spending habits.

Ask yourself the following questions:

  • How did those high balances happen? 
  • Can you make sure you’re not repeating the same steps that created them?  
  • What are you purchasing with your credit cards, and why? 
  • Would increasing your cash flow and savings help? 

Review your budget and adjust where you can to cut back on expenses. Some simple steps can help put you on the path to your goals.

For many people, using a lower interest home equity loan (with tax-deductible mortgage interest) is a better way to pay off high interest credit cards.