Information on Refinancing Mortgages to Pay off Credit Cards
Bills.com spotlights pros, cons of credit-paying mortgage refinance
SAN MATEO, Calif., Nov. 15, 2006 - Despite cautionary forecasts about the nation's economy and the state of consumer debt, a recent mortgage refinance review found 88 percent of refinance loans in a recent survey were "cash out" refinances for higher amounts than the original mortgage. Andrew Housser, co-CEO of Bills.com, suggests homeowners weigh carefully whether to refinance their mortgage to pay off debt. "Many Americans with large credit card balances find themselves frustrated with the interest and fees they pay each month. Rightfully so, as the average interest rate on variable-rate credit cards currently hovers around 15 percent per year," said Housser. "It is not uncommon to see annual credit card rates of 30 percent or more. Because of this, homeowners may consider a mortgage refinance as a way to pay off high-interest credit card debt with a low-interest mortgage loan." As interest rates continue to rise, more Americans are feeling the pinch of higher credit card rates, which are tied to the increasing prime rate. "Some people suggest a mortgage refinance is a no-brainer in a situation like this," Housser said, noting that exchanging 15 percent interest on a credit card for 6.4 percent interest on a mortgage does sound enticing. But before refinancing a mortgage, it is important to consider the following pros and cons. Pros:
- Lower Interest Rate. A mortgage refinance will almost certainly lower the interest rate. Average annual interest rates on 30-year fixed mortgages are approximately 6.4 percent. For $20,000 in credit card debt, the difference between a 15 percent interest rate and a 6.4 percent interest rate will be more than $140 per month.
- Interest is Tax-Deductible. Mortgage interest is usually tax-deductible, while credit card interest is not. A mortgage refinance will lower the borrower's interest rate and tax burden. Depending on the tax bracket, a 6.4 percent mortgage interest rate could be equivalent to a 4.1 percent after-tax credit card interest rate.
- One Simple Payment. One benefit of consolidation through a mortgage refinance is that all different credit cards can be paid off, leaving only one fixed mortgage payment each month. Many people find one payment much easier to manage than multiple credit cards and mortgage payments with different due dates and changing payment amounts.
- Puts the Home at Risk. Credit cards are unsecured debts. This means property cannot be repossessed or foreclosed for failing to make payments -- which is one of the reasons credit card interest rates are so high. When a mortgage refinance is used to pay off credit cards, borrowers are making unsecured debts secured with their home. If an unexpected event leaves the borrower unable to pay credit card bills, his or her credit rating will suffer. But if that event means he or she can’t make the mortgage payment, he or she could lose a home. "Create a detailed budget that allows financial breathing room so that even in the event of an unexpected hardship (medical, temporary job loss), you will be able to continue making your increased mortgage payment," Housser advised.
- PMI May Cost. If a home refinance increases the mortgage balance above 80 percent of the value of the home, the lender will require Private Mortgage Insurance (PMI). This could increase the monthly payment by $100 - $200 per month (it is not tax-deductible) and wipe out the benefit of the lower interest rate.
- Mortgage Fees and Total Interest Paid May Be Higher. "If you have the ability to pay off your credit debts in a short time period, you almost always will be better off paying off your credit card debt versus refinancing," Housser said. He explained why: First, a refinance involves significant fees paid to the mortgage company that could total 2 percent or more of the mortgage balance. Second, paying off a credit card debt in a short period of time could result in substantially less interest paid than the total interest paid on a 6.4 percent mortgage paid out over 30 years. Paying $20,000 in credit card debt at 15 percent over four years will result in total interest of about $6,700. Paying $20,000 at 6.4 percent over 30 years in a mortgage will result in about $25,000 in additional interest.
- Avoid the Trap of Running Up Cards Again. Borrowers who do decide on a mortgage refinance to consolidate debt must avoid the common trap that many people fall into - running the balances on the credit cards right back up again. "Consider keeping just one low-limit card for emergencies," Housser suggested.
A mortgage refinance can be a good way to pay off credit cards and lower the interest rate on debts. However, it is not the "no-brainer" some people claim it to be. "Analyze your situation, your personal budget, and the pros and cons before taking the financial leap," advised Housser. Based in San Mateo, Calif., Bills.com is a free one-stop online portal where consumers can educate themselves about complex personal finance issues and save money by choosing the best-value products and services. Since 2002, Bills.com’s partner company, Freedom Financial Network, has provided consumer debt resolution services, serving more than 10,000 customers nationwide and managing more than $250 million in consumer debt. The company’s co-founders and CEOs, Andrew Housser and Brad Stroh, were recently named Northern California finalists in Ernst & Young’s 2006 Entrepreneur of the Year Awards.