Refinance To Pay Off Debt: Is It The Right Solutions For You?

Whether it’s credit card debt, student loan debt, medical bills, or anything else, owing a large amount of money is no fun at all. Especially in a market seeing high inflation. Fortunately, if you own your home, you may be able to refinance to pay off debt.

It’s not always the best solution for everyone and you need to take your individual financial situation into account. That said, refinancing your mortgage to pay off debt just might work for you.

How Refinancing Your Mortgage To Pay Off Debt Works

To make an informed decision, it’s important to know how refinancing your home to pay off debt works and why it might be a good idea. The process is actually pretty simple. You essentially trade your old mortgage for a new mortgage that has better terms in relation to your current financial needs.

When refinancing a mortgage, homeowners can expect lower interest rates from lenders, leaving them with a lower monthly payment and more money to pay off other debts. In addition, mortgage interest rates tend to be lower than other rates people are subjected to from student loans, credit cards, and other personal loans. You still need to pay off your debts, of course, but you will pay less interest while doing it.

Mortgage Refinance Options For Debt Repayment

Not all mortgage refinance terms are the same. There is a rate-and-term refinance or a cash-out refinance. Depending on your financial goals, one of these options may make more sense than the other. Think about what you want to accomplish, and talk to your lender about which option makes the most sense for you. Keep in mind that in this market, rates have risen in 2022, so rate-and-term is likely not as readily available. But, with credit card rates over 20% in most cases, cash-out refinances and debt consolidation are extremely viable solutions.

Rate-And-Term Refinance

A rate-and-term refinance as a way for homeowners to look for a different interest rate and loan term. With this type of refinance, the mortgage loan amount will not change, but the borrower can get lower monthly payments or even a shorter loan term. With lower monthly mortgage payments, you will have more of your income to dedicate towards paying off other debts.

If you are looking to pay less for your mortgage each month and/or pay less interest, this might be a good option for you. If you need to get a lump sum of cash out of your home to pay off debt quickly, not so much.

Cash-Out Refinance

A cash-out refinance consists of taking out a new mortgage for more than what you currently owe. You then pay off the original mortgage and keep the cash difference. It’s important to note that there are qualifications for this refinance type, including [home equity](https://www.rockethomes.com/blog/homeowner-tips/home-equity) and credit score requirements.

If you need cash fast to pay off debt or for other expenses, a cash-out refinance might be a good route to take. If you are looking to simply pay less interest for your mortgage but not incur more mortgage debt, this might not be the best route to go.

The Pros And Cons Of Refinancing To Pay Off Debt

Any decision in life is always full of trade-offs and refinancing to pay off debt is no different. To make the best possible decision, create a list of the pros and cons related to refinancing. Then, look at them carefully through the lens of your current financial situation and future financial goals.

Pros

You’re Saving Money

Since the borrower is refinancing with a lower rate, they will in turn start saving money monthly by having lower payments. This extra cash each month can go toward paying down other debts or toward everyday expenses.

You’re Able To Pay Off Debt Faster

When doing a rate-and-term refinance, the homeowner can pay down their mortgage quicker. This means it will take less time to own the home “free and clear” with no more monthly mortgage payments.

Cash-Out Equity Can Be Used For Other Things

A cash-out refinance allows the homeowner to pay for other things they might be looking to buy or pay off. This can include student loans, credit card debt and auto loans, just to name a few. And, as previously mentioned, the interest rates on these debts are usually higher than the interest rates on a refinanced mortgage.

Cons

Your Home Is Collateral

When you take out any mortgage, your home is used to secure the loan. This is true of a cash-out refinance and rate-and-term refinance as well. When your home serves as collateral for the loan, the bank has the ability to foreclose on the house if there are any missed mortgage payments. Simply put, if you are unable to make your mortgage payments, you may lose your home.

You Still Have To Pay Closing Costs

Refinancing your mortgage isn’t free. Closing costs are still the homeowner’s responsibility to pay when refinancing. Be sure to have your lender explain all of the closing costs associated with the mortgage refinance you are considering before moving forward. It is possible for these costs to be rolled into the loan so you have no out-of-pocket expenses.

Your Credit Score Could Be Impacted

When you check our credit score online using any of the many free services, it is considered a soft pull on your credit. This means it won’t affect your credit score. A hard pull, in contrast, can bring your score down. Unfortunately, a hard pull is necessary when applying for a refinance. This process could lower your credit score temporarily.

You Could End Up Paying More In Interest

Refinancing a loan can lead to a longer loan term, meaning you will be paying for an even longer amount of time incurring even more interest as well. Just because the monthly interest rate is lower doesn’t mean you will be paying less overall interest over the course of the entire loan.

Is Refinancing Your Home To Pay Off Debt A Good Idea?

Homeowners should consider all pros and cons before making a decision on whether refinancing to pay off debt is the right choice for them. Don’t just think about your current needs, as it’s important to consider what your future financial state will be and if refinancing is affordable long term. Remember, if you can’t make your payments, now or in the future, you may end up losing your home.

Before talking to a lender, consider meeting with your financial advisor to go over the possibility of refinancing to pay off debt in order to fully assess your financial situation. Trust the professionals, ask lots of questions, and consider every angle before deciding which course to take.

The Bottom Line

Refinancing your home to pay off debt can be a great way to lower the amount of interest you pay each month. It doesn’t make sense for everyone, though, so intense research on all your options is a must. Ready to start the research? Contact us today to learn more about refinancing your mortgage.

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