Prime Time Money

After yesterday’s guest post, Would You Consider a Home Refinance to Pay Off Credit Cards?, caused a bit of a backlash, I thought I would follow it up by covering the topic in detail.  First, here’s one comment from reader Cat:

NEVER EVER replace unsecured debt with secured debt. To even give this subject a thought is irresponsible. If you are responsible enough to pay down your debt, you shouldn’t need to refinance your home. Also, if you are having trouble making your payments, your credit score is suffering and you would likely not get a great rate on the refinance. Please post a follow-up article explaining secured debt and unsecured debt. You have misled readers today.

Thanks for not holding back, Cat.  :)  Seriously, thanks for inspiring this post.  You are right that this was needed.  Not to be one to mislead my readers, here’s the deal on unsecured vs. secured debt, and the question of using the latter to pay for the former.

Home Equity | Secured Debt

Secured debt is debt that has an asset legally attached to it.  It’s not just that you bought an asset; the asset is actually “attached” legally in the agreement.  This asset is the “security” for the debt.  If you default on the loan (i.e. stop making the payments) the company that lent you the money for the asset will just come take the asset from you.  It’s their legal right under the secured agreement to do so.  Examples of secured debts: home mortgage and home equity lines of credit, auto loans, and boat loans.

Credit Cards | Unsecured Debt

An unsecured debt doesn’t have an asset associated with it.  You may have purchased an asset with the debt, but the asset isn’t included in the agreement.  If you default on the loan, the company that lent you the money has nothing to take away from you.  All they’ll do is call and harass you and ruin your credit score, rightfully so.  :)  Examples of unsecured debts: credit card debt, gym memberships, some personal loans.

Using Secured Debt to Refinance Unsecured Debt

That leads us to the issue at hand, should you use your home’s equity (secured) to pay off your credit card debt (unsecured)? Initially, and in most cases, I would say no because you’re moving debt from an agreement that could only cause harm to your credit score to an agreement that could actually cause you to lose your home.  If you default, you’re back living with Mom and Dad (or worse, on the streets) because you didn’t pay your debts.  Debt that was originally created to buy something that was likely a want instead of a need, like an XBox 360.

But is it “irresponsible” to to even consider it? Let’s examine a situation when it might not be irresponsible to payoff credit cards with one’s home equity.  Imagine a guy named Max suddenly owes $25,000 in credit card debt due to unexpected medical costs.  His insurance just didn’t cover everything.  The interest rate on the card is 18%, the best he could get with his so-so credit score.  Each month though he’s making payments on time, even paying extra every once in a while.

Continuing with the example, imagine that just last year Max put down $25,000 (5 year’s worth of savings) on his first home purchase.  Therefore, he has equity sitting in the home and can now take out a home equity loan (at 10%) to pay off the credit card debt.  In Max’s situation, I’d say the home equity loan is a move to consider.  After all, isn’t it not much different than if he’d put 0% down and used the savings for the debt repayment?  The small risk of transferring the debt (and having no equity in his home) is worth the savings in interest charges for a responsible guy like Max.

I realize the scenario above wasn’t presented in the guest post yesterday, and that in most cases people use home equity loans just to get back into more debt.  Still, I’m just trying to show that every one’s situation is different (the “personal” in personal finance) and financial products can be used both poorly and responsibly.

A Better Solution for Unsecured Credit Card Debt

A better solution for unwanted high-interest credit card debt, in my opinion, if you have a decent enough credit score, might be to do a 0% intro rate credit card balance transfer.  Your debt remains unsecured, and you completely avoid future interest charges.  Just be sure to quit using your credit cards after the transfer.  I’ve used transfers in the past to pay off credit card debt and come out on top.

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I’d love to hear more of your opinions on this issue.  Let me hear from you in the comment section below.

Editor Note: The following is a guest post.

Credit Card Debt

High interest credit card debt cripples people who charge more than they can afford.  If we could all pay off our credit cards in full each month, chances are we wouldn’t be using them so often!  Making late payments then causes us to pay even more in late fees and sometimes, an across-the-board interest rate increase on all of your credit card accounts.

If you’re a homeowner, you’ve probably considered refinancing the house to pay off your credit card debt to give yourself a new beginning.  As with any financial decision, there are advantages and disadvantages to refinancing your mortgage to get out from underneath credit card debt.

Paying off Credit Cards with a Mortgage Refinance: Disadvantages

When you refinance your mortgage to pay off credit card debt, you will more than likely be able to save interest but it isn’t the perfect solution.  Refinancing typically requires closing costs, which could be in the $3,000 range.  There are some lenders who will help you out by rolling this amount into your mortgage, but you still end up paying for it, and if you choose to pay for it by rolling it into the mortgage, you’re doing that with interest, too.

Paying credit cards with money taken from a mortgage refinance means you are putting your house on the line as collateral.  If for any reason you can’t keep up with the mortgage payments now that you’ve included your credit card debt in them; the lender could take your home.  If you decide to refinance to pay off credit cards, you should be 100% certain you’ll have no problems repaying it.

Another disadvantage of refinancing your home to get rid of credit card debt can be experienced if you try to sell your home.  If you borrow more against your home and then attempt to sell it, it’s more likely that you will not be able to sell the home for the amount you still owe on your mortgage.  Just because your house is appraised for a certain amount does not mean you can get that when you put up the for sale sign. If you’re looking to sell your home in the near future, you may not benefit from refinancing the home to pay off credit cards because it could make it difficult to sell the home for more than what you owe; or to even break even with our current economic condition.

Paying off Credit Cards with a Mortgage Refinance: Advantages

Despite the potential disadvantages to refinancing a home to pay off credit cards, there are of course great benefits to doing so.  If you are finding it really hard to keep up with all of your bills each month, refinancing consolidates some of those accounts, reduces interest and can sometimes give you a lower payment which will help you considerably.  As you are better able to make your payments on time each month under the new arrangements, you’ll also start noticing an increase in your credit score, which will help you over the long term.

Most people find refinancing their mortgage to be a great option if the amount they can obtain from the refinance is enough to completely pay off their credit card debt (and maybe even enough to pay personal or car loans, too).  It works like a debt consolidation loan, with the exception that you are securing the debt through your mortgage.  Having a single payment each month for each of your various accounts can certainly help your financial situation.

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Do YOU agree?  Is a home refinance for credit card payoff a good idea?  Let me know in the comments below…

This is a guest post from Debbie Dragon, a writer for CreditorWeb.com; she writes about credit cards, rewards programs, and personal finance.

Over the last two weeks I’ve challenged you to conduct a mid-year financial check-up.  How did it go?  Here are the posts from that series:

Financial Check-Up Series

1. How is Your Spending?
2. Are You Saving Enough?
3. Got Bad Debt?
4. Reached Your Contribution Limits?

I’ve enjoyed putting this together partly because it’s helped me to take a closer look at my own financial status.  Keep in mind, this is by no means a complete list of areas for you to examine at this point in the year. 

Still, this list should be able to give most people a good starting point.  After all, most people could use to lower their spending, save a little more, and get rid of some debt (which just happens to be what this blog is all about). 

Every one’s situation is unique though.  Other areas you might want to consider:

• Maintenance of your Assets (personal residence, rental properties, cars)
• A Review of Your Insurance Policies (medical, life, auto, home)
• Creation of and/or Updates to a Will
• Organizing Your Financial Files

Do you have an area to add?  Leave it in the comments below.

Here at Prime Time Money we’ve been focusing on how the mid-point in the year is a good time to revisit your financial situation and see where you stand.  To help get you started, I’ve put together a series of ideas to help you conduct your own mid-year financial check-up.  

#1 - How is Your Spending?

#2 - Are You Saving Enough?

Third in the series is a review of your debts.

Got Bad Debt?

Take a moment to review your debt situation (gather up all your statements) and identify those truly bad debts still hanging around.  What do I mean by “bad” debt?  Isn’t all debt “bad”?  Well, deciding what type of debts are “okay” by you is a personal choice.  You may decide that NO debt is the ideal.  Do You Have Too Much Debt?

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We Paid Off the Car Loan!!!

There’s been a lot going on with the blog these past few weeks and I didn’t find time in June to squeeze in an update of our debt reduction.  So here it is.  As you can see by the updated chart, we’ve paid off the car loan.  It feels really great to only have the one bad debt now, the SUV loan.  But before we discuss that, let’s take a second to celebrate the payoff of the car loan. 

How We Paid it Off

When we last reviewed our progress (May debt chart update) I had around $3,500 left to pay on the car.  Since then, we were able to pay it off completely thanks to our economic stimulus check, our property tax savings (which we just shifted to an ESPP), and a small bit of our emergency fund.  Wow, talk about creative finance.  :)  It feels great to have this done and still be in a good position with our short-term savings.

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