Should You Use a Home Equity Loan for Debt Consolidation?

You can use home equity loans and HELOCs (home equity lines of credit) to consolidate credit card debt at a lower interest rate, which means you could potentially pay it off faster. But there are risks, including losing your home to foreclosure if you can’t pay.

NerdWallet recommends exploring alternatives first.

Should you use home equity to pay off debt?

The two questions to ask when considering any strategy to consolidate credit card debt are:

• Will this plan allow me to pay off my consumer debt within five years?

• Is my total debt less than half my total annual income?

Why five years? That’s the maximum time you’d be required to make payments toward Chapter 13 bankruptcy or a debt management plan, after which your debt would be fully retired.

A “no” answer to either question suggests you have too much debt. Your best option is to talk to an attorney or credit counselor about debt relief, including debt management or bankruptcy.

A “yes” answer to both questions means you could use home equity to consolidate debt, or you could consider these alternatives:

0% balance transfer credit card

For people with good or excellent credit, some companies offer balance transfer credit cards with introductory no-interest periods from six months to two years. This is usually the cheapest option for those who qualify.

Personal loan

For most borrowers, interest rates on debt consolidation loans are lower than rates on regular credit cards. The rate you get depends on your credit history and income.

Pros and cons of using home equity to pay off debt

You might get a lower interest rate on that debt, but you’re also risking losing your home if you can’t keep up with payments.

If you have good credit, you probably have other debt consolidation options that don’t risk your home. And if your financial situation is unstable, you shouldn’t turn unsecured debt (that can be erased in bankruptcy) into secured debt that can’t.

Here are some of the pros and cons of using home equity to consolidate debt:

Should you get a home equity loan or HELOC?

Home equity loan

If you decide to proceed, consider which approach to use. Home equity loans are a type of second mortgage based on the value of your home beyond what you owe on your primary mortgage. You get a lump sum of money — often with closing costs taken out — that you can then use to pay off your debt or for any other purpose. You’ll have a fixed monthly payment and a repayment schedule.

What to consider:

• Usually offers a low, fixed rate.

• Fixed loan payments can be easier to budget for.

• Know your loan’s exact payoff date.

• Upfront closing costs can be high.

• You generally need a credit score of 620 or higher.

• Home equity loans are less flexible than HELOCs.

HELOC

HELOCs are second mortgages structured like credit cards. Instead of getting a lump sum, you borrow against your home equity as needed — to pay off credit card balances, for example — using checks or a debit card linked to the credit line. You pay interest only on the credit you use, often at rates several percentage points lower than average rates on credit cards.

What to consider:

• Usually a low, variable rate (although some lenders offer a fixed-rate option).

• Some have no or low closing costs.

• Adjustable rates mean payments could go up.

• Harder to budget for.

• Easy access to a credit line can sabotage budgeting efforts.

• Interest-only payment options can lead to deeper debt.

Final thoughts