If you are like most
Americans, your mail box is filled with offers for credit cards, mortgage
refinancing and home equity loans. Many of those offers stress the benefits
of moving existing balances to the new lender. While that may sound appealing,
especially if the new loan offers an attractive initial interest rate,
it is important to consider all the factors associated with debt consolidation.
is Debt Management, Not Debt Elimination
Moving all your outstanding loan balances to one lender will not reduce
the amount you owe. You must ultimately pay off the loan and pay interest
until the loan is repaid. Your goal should be using debt wisely. Here
are some reasons to consider debt consolidation:
- Lower rates - Different
types of loans have different rates. Credit card debt usually carries
higher rates than loans that are secured by an asset such as a home
- Lower payments
- You payment is determined by the amount you are borrowing, the rate
being charged and the length of time over which you are paying off the
- Tax benefits -
The interest you pay on a home mortgage or home equity loan may be tax
deductible while interest on credit card debt and most personal loans
is not. Consult your tax advisor for more details.
- Peace of mind -
Dealing with one lender, making fewer monthly payments and having a
plan for paying off your total debt can reduce your financial anxiety.
- Improve credit
record - Having fewer debts and making timely payments can make it easier
(and potentially cheaper) to secure loans in the future.
The starting point
is to determine what you have borrowed and the interest you are currently
paying. Here is a worksheet that can help.
- Examine the types
of debt you have and the rates you are paying.
- Are these the types
of debt you want? - There may be less expensive alternatives within
the category such as replacing your credit card with one that offers
lower rate. You may also wish to consider converting one type of debt
into a different type that offers lower rates, such as using a lower
interest rate home equity loan to pay off other more expensive types.
- If you decide to
replace debt with debt secured by real estate (mortgage or home equity
loan), consider the alternatives and remember the risks. You will be
pledging your home as collateral.
Attractions of Home Equity Loans
- It easy to apply and the approval processes can be fast. The process
is often simpler than if you were applying for a new mortgage. Once you
are approved, the commitment acts like a line of credit. You do not have
to borrow it all at once.
Interest rates - The interest rates charged on home equity loans
are usually greater than those on first mortgages but less than those
on credit cards. Often, you are only required to pay the monthly interest
with the principal to be paid later.
- For many individuals that itemize their tax deductions, the interest
paid on home equity loans can help save some income taxes. There are some
limits on this type of interest deduction so consult with your tax advisor
for more details.
Flexible uses - Even though you are borrowing against your house,
there is no requirement that the money be used on your house. A home equity
loan can be the source of funds for paying off credit card balances, college
tuition or even to buy a car.
You owe it to yourself
to determine if consolidating your debts into one loan makes sense. You
may be able to reduce your interest rate and if you use a home equity
loan, you may be able to save some taxes. However, just like with any
financial transaction, you must consider all the factors and risks.
Control of Your Financial Future
Articles from our
library about managing your debt.
more than the monthly minimum on your credit card
and using a wise borrowing strategy
of a good credit report
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