If you’re feeling overwhelmed by multiple streams of debt and are desperate for relief, refinancing your home loan for debt consolidation might be a great option.
A debt consolidation home loan provides a short term solution to a multi-faceted problem – but you need to weigh up the long term consequences and decide whether it’ll work for you.
You should always consult with a mortgage broker before making big financial decisions such as debt consolidation. They’ll be able to provide you with guidance to best suit your current and future home loan situation.
If you are experiencing financial hardship, this guide will break down everything you need to know about a debt consolidation loan.
Why Would You Want To Consolidate Your Debt?
People often have existing debts in various forms, such as a:
- Credit card repayments
- Personal loans
- Car loan debt
Each form of credit comes with its own interest rate and repayment amount. And, because they’re considered short-term loans, they are generally paid off far quicker than home loans.
Because a home loan is a larger loan taken over a longer term, the interest rate is generally lower than personal loans, car loans and other existing debts. Therefore, debt consolidation refinancing under your home loan could assist with a reduction in your total monthly repayments.
So, the main reason why people are interested in a new debt consolidation loan is to increase their monthly cash flow by paying less off on their monthly repayments.
How Does a Debt Consolidation Loan Work?
People choose to refinance their home loans for different reasons. Some do so to access the equity in their home or to consolidate debts.
Using your home loan to consolidate debt entails refinancing your loan. Your chosen lender will consider all your avenues of existing debt and refinance the balance of your home loan to include that debt.
You will ultimately receive a brand new loan that includes your home loan, as well as all your debts such as a personal loan and credit card debt.
Adam took out a 25-year home loan for $350,000 at 4%. After five years, he had reduced it to $300,000.
He additionally has a total of $15,000 in debt from multiple credit cards and is struggling to juggle all of the monthly repayments along with his home loan.
Adam’s mortgage broker advised him to refinance his home loan to consolidate his debt. Because he has a great credit score and has never defaulted on any of his mortgage repayments, his bank allowed him to refinance his home loan to $315,000.
His previous monthly mortgage repayment amounted to $1,848, and his credit cards were $211, $153 and $84 per month, respectively. So, in total, he was paying $2,296 towards his different loans.
Under his new loan, his monthly repayments are $1,927 – all housed under one loan. This means that he is effectively freeing $369 worth of cash flow for himself monthly.
What Are the Advantages of Refinancing To Consolidate Personal Loan and Other Debt?
The main advantage of refinancing your home loan as debt consolidation is that there’s instant cash flow relief.
Typically, home loan interest rates are lower than a personal loan, car loan, and credit card interest rates. So, consolidating debt means all of those debts will now receive the same lower interest rate as the home loan.
Many people see consolidating debts as a way to keep all their eggs in one basket. Instead of keeping track of multiple debts, you know you only have one amount to pay every month as opposed to multiple loan repayments.
This could also increase your credit score and your subsequent borrowing power, as it reduces the risk of missed payments. Having only one monthly repayment means that nothing can fall through the cracks.
Having more cash every month affords people a chance to save money that they might not have had before.
Are There Any Disadvantages of Refinancing To Consolidate Debt?
There are indeed disadvantages of debt consolidation. This is why it’s so important to seek professional advice before making a big decision that could land you in great financial difficulty.
The first thing to consider is the upfront costs of refinancing. If you’re already short on cash, be sure to take these into account.
While it might sound like a good idea to consolidate multiple loans with high-interest debts, because your loan term is exponentially longer, you may end up paying more money in the long run – even though your new loan is at a lower interest rate.
So, you need to weigh up whether debt consolidation to decrease your monthly repayments in the short term is worth potentially paying more money in total in the long run.
Which will be more financially beneficial to you and your personal circumstances?
It isn’t uncommon to think, “the more money I have, the happier I’ll be.” But, this becomes risky when you have existing debts, and then you start accumulating other debts again – it can lead to a disastrous downward spiral.
Refinancing your home loan for debt consolidation can provide much needed financial relief.
Putting your personal loan, car loan and credit card debt all in one place can save you money right away by:
- lowering their interest,
- increasing their loan term, and
- decreasing your monthly minimum repayments.
But, there are negatives involved too. If you consolidate your debts through refinancing, the total interest you pay in the long term, even at a lower interest rate, may end up being far more than if you left your personal debt and credit card debt as is.
At the end of the day, you need to seriously consider whether you aim to save money now (through debt consolidation) or save money in the long run and continue to pay off your debt as soon as possible.
While every person’s situation is personal and unique, at The Mortgage Agency, we have helped many clients weigh up the pros and cons of this decision.
Ultimately, so long as you know your goals, our specialist mortgage brokers can recommend the best steps to reach them. Then, they will compile a process guide and help you through your journey.
Contact our expert brokers today to set up a consultation.
Please note that every effort has been made to ensure that the information provided in this guide is accurate. You should note, however, that the information is intended as a guide only, providing an overview of general information available to property buyers and investors. This guide is not intended to be an exhaustive source of information and should not be seen to constitute legal, tax or investment advice. You should, where necessary, seek your own advice for any legal, tax or investment issues raised in your affairs.