Using home equity in the form of home equity loans or lines of credit has become very commonplace in our society. Home equity is touted as the answer for everything from remodeling the kitchen to sending a kid to college. One especially popular use of home equity is to pay off other types of debt, particularly credit card debt. But is it a good idea?
By far the best argument in favor of using home equity to pay off debt is a purely financial one. It often makes mathematical sense for two big reasons:
1. Because the debt is secured by your home, the interest rate is often lower than on other, unsecured forms of debt.
2. The interest paid on a home equity loan or line of credit is often tax deductible.
Those two reasons can add up to thousands of dollars for some home owners. And yet it’s not exactly a no-brainer. Here are some things to take into account when making this decision:
1. Paying off credit card debt with home equity means swapping unsecured debt with debt secured by your home. While not paying your credit card debt will result in badly damaged credit, not paying your home equity loan or line of credit can result in the loss of your primary residence. While most borrowers never plan to not repay their debt, unforeseen circumstances do occur.
2. All home equity loans are not created equal. Home equity lines of credit, for instance, often come with a variable interest rate. During times of rising rates, a loan that was once very comfortable can suddenly become unaffordable.
3. It’s not all about the math. Popular financial expert, Dave Ramsey, is fond of pointing out that personal finance is 80% about behavior and only 20% about the math. If a borrower doesn’t address the issues that got them into debt in the first place, they could run their credit card balances back up and find themselves in a worse situation than they had been previously.