What is debt consolidation refinance?
Debt consolidation is a way to stop paying your high credit card payments individually and instead pay one lower rate on all debts collectively.
Should I consolidate my credit card debts?
Every situation is different, but there are some general guidelines to follow. Firstly, if you consolidate debts, be sure to put the credit cards away and not use them again until the debt is paid off. Otherwise, you will only get deeper into debt.
Whether a debt consolidation refinance is right for you will depend on several factors. These include:
• How much you need to borrow versus the value of your home – can you avoid paying mortgage insurance after the refinance?
• Current mortgage rates – are they lower than your credit card rates? Are they close to or lower than the fixed rate on your current mortgage?
• Your income – is it sufficient to pay the post refinance payment?
• Loan fees – will the interest savings overcome the cost of refinancing?
• Longevity – will you be in your home for the next 5 to 15 years?
If your answer to each of the above questions is “yes,” then a debt consolidation refinance is probably right for you. It is important that you talk to your loan representative about all options available to be sure you are making the best decision. This is especially true if you can answer “yes” to some of the questions but not all.
Is a Second Mortgage a Better Option?
In most cases, a second mortgage is the less desirable option when compare to refinancing the first mortgage. A second mortgage has many disadvantages. These include:
• Second mortgages can make it difficult and more expensive to refinance the first mortgage. They become primary as soon as the first is paid and may require a fee before they agree to subordinate to a new first mortgage.
• A second mortgage can put your debt higher than the value of your house. This is how many of those who are currently upside down on their mortgages got that way.
• Second mortgages usually have higher closing costs and higher interest rates.
There are situations when a second mortgage makes sense. For instance, if the rate on your first mortgage is much lower than current rates, it will be costly to refinance. You will be paying the higher rate on the original principal and on the new consolidated debt. In such a situation, look at the second mortgage. If the interest rate of a second mortgage is less than the credit card rates, and the fees can be recouped through interest savings after just a few years, a second mortgage may help you.
For example, John has $25,000 from various credit cards. One card has a $5,000 balance at 10%, one has a $10,000 balance at 6% and the remaining card has a very high rate of 18% because he missed a payment. John realizes he cannot keep paying 18% and has decided he should refinance.
As long as John can find a rate of well under 6%, he should do well with a mortgage refinance, as long as he stops using his credit cards until the amount is paid in full. But if he can only find a loan at 7%, he should only refinance $15,000 of the credit card debt. Otherwise he will be paying more interest than before on $10,000 of credit. The same would hold true for a second mortgage.