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Juggling multiple debts with soaring interest rates? A home equity loan could be the game-changer you need to regain control.
More people are using home equity to pay off debt
Managing high-interest debt can quickly become overwhelming. As a homeowner, you could use a home equity loan to pay off that debt.
It’s a popular option that could be a practical way to simplify payments and secure lower interest rates.
The home equity lending market in the U.S. is expected to grow at a compound rate of 4.7% annually through 2032. This surge suggests that more homeowners are turning to home equity options as an alternative to refinancing amid higher interest rates.
Accessing home value to save you money
When you get a home equity loan, you can access your home’s value without changing your current mortgage.
This option enables you to ‘pool’ multiple debts into a single loan with fixed payments. This strategy can help simplify repayment and potentially reduce interest costs.
It can be highly effective, but understanding the risks and benefits is essential.
- Approval in 5 minutes. Funding in as few as 5 days
- Borrow $20K-$400K
- Consolidate debt or finance home projects
- Fastest way to turn home equity into cash
- 100% online application
How a home equity loan works for debt consolidation
A home equity loan is a one-time, lump-sum loan backed by your home. It usually comes with a fixed interest rate and repayment term, making payments predictable.
Using it to pay off higher-interest debts, such as credit cards or personal loans, you can reduce your monthly interest expenses and simplify your finances.
How to qualify for a home equity loan
Lenders consider several factors when deciding whether to approve you.
A “good credit” rating or above is typically required, though some lenders may have stricter or less stringent standards.
They also look at your debt-to-income (DTI) ratio, which they prefer to be below 43%.
A stable employment history and a low loan-to-value (LTV) ratio can also boost your chances of approval.
Reviewing your credit report and paying down existing debts before applying can help strengthen your application.
Potential downsides of using a home equity loan for debt consolidation
While a home equity loan can ease financial stress, it also comes with risks. Since your home is collateral, missing payments could lead to foreclosure.
There’s also the risk of long-term costs. A lower interest rate might save you money initially, but a lengthy repayment term could mean paying more overall interest.
If you don’t adjust your spending habits, you could accumulate new debt, which would worsen your situation in the long run.
How interest rates affect monthly payments
Lower interest rates can make monthly payments easier and help you get out of debt faster.
Home equity loans usually offer lower rates than credit cards.
Most home equity loans carry fixed rates—your payments won’t change, making it easier to budget.
On the other hand, if the interest rate is high, monthly payments will be higher, too, which can reduce the loan’s effectiveness as a debt management tool.
Tax considerations when using a home equity loan to pay off debt
The interest on a home equity loan is only tax-deductible if you use the money for home improvements.
The interest usually isn’t deductible if the funds are used for debt consolidation.
Talking to a tax professional can help you understand if there are any tax benefits based on your situation.
How loan-to-value (LTV) ratio impacts eligibility
Lenders use the loan-to-value (LTV) ratio to decide how much equity you can borrow against.
LTV is calculated by dividing your total mortgage debt by your home’s market value.
Most lenders prefer an LTV ratio below 80% for home equity loans. A lower LTV ratio can improve your chances of getting approved and help you qualify for better loan terms.
If your LTV is too high, lenders might limit the loan amount or reject your application.
An accurate home appraisal can help you figure out how much equity you have available.
Typical repayment terms for home equity loans
Home equity loans generally offer repayment terms of 5 to 30 years.
Shorter terms mean higher payments but less interest overall, while longer terms lower the payments but can lead to higher interest payments over time.
Some lenders also allow early repayment without penalties, which can help you save on interest.
Common mistakes to avoid with home equity loans
Using the money you get from a home equity loan to pay off debt carries with it some common pitfalls, such as:
- Borrowing too much: Taking out a loan that’s larger than you need can strain your finances and make repayment difficult.
- Ignoring your budget: Consolidating debt won’t help if you keep overspending—setting a budget can prevent new debt from piling up.
- Choosing the wrong term: Longer repayment terms lower monthly payments but can cost more in interest over time, so it’s essential to pick a term that fits your budget and financial goals.
Other ways to consolidate debt without a home equity loan
A home equity loan isn’t your only option for managing debt.
Alternative debt-consolidation choices include:
- Cash-out refinancing: This option lets you swap out your current mortgage with one for a larger sum, then take the difference in cash to pay off debt
- Balance transfer credit cards: Some provide 0% introductory APR periods, making it possible to pay down debt interest-free for a limited time
- Personal loans: You can use unsecured loans for debt consolidation, but they often come with higher interest rates than home equity loans
- Debt management plans: Credit counseling agencies offer help to secure lower interest rates and set up a structured repayment plan.
Planning for the future after using a home equity loan
Of course, the best plan in life is to avoid unnecessary debt in the first place.
Creating a dedicated emergency fund can help you avoid new debt, and sticking to a realistic budget will help keep those finances on track.
But if you have a financial plan that includes using a home equity loan to consolidate debt, prepare carefully.
Home equity loans can simplify repayment and lower interest costs, but they’re not risk-free. Pay attention to repayment terms, interest rates, and your LTV ratio.
With the right help and understanding, you can get out of debt for good.
Our advice is based on experience in the mortgage industry and we are dedicated to helping you achieve your goal of owning a home. We may receive compensation from partner banks when you view mortgage rates listed on our website.
