1. You might be in a tough financial situation with credit card debt and are looking for a way to relieve some of this financial headache. There are many different ways you could do this which include calling up a debt collection agency or even the credit card company that you have your credit cards with. You could take up a second job to pay the bills or have to start selling some of your own personal goods. What can you do without having to declare bankruptcy?
2. If you currently own a home and hopefully you have owned it for awhile you could try opening up a home equity line of credit(HELOC). To open up a home equity loan you will need to have some equity in your home to be able to borrow against it. To determine how much you can borrow against your home you will need to call up a mortgage company and ask them what are their guidelines with their home equity loans. Many mortgage companies nowadays will only do a home equity loan up to 90% of the value of the home. The bank might have some guidelines that say you have credit scores over 700 and have not missed a mortgage payment in the last twelve months. Each mortgage company has their own guidelines but you want to make sure that you find the one that can give you the most help. Some mortgage companies and banks will not even do a home equity loan or a second mortgage anymore due to deteriorating home values across the United States. If you call 5 different mortgage companies, credit unions, or banks and none can help you then its going to be the same with all mortgage companies.
3. Let’s stay on the bright side of things and say that you have found a mortgage lender that is going to help you out. As an example ou currently have a first mortgage that goes up to 60% of the value of the home leaving you with 40% equity in the home. The mortgage company says they can give you a home equity loan up to 90% LTV (loan to value). You will want to take the home equity loan up to the full 90% even if you do not need the full amount. The reason is because you just never know how much you might need in the future and with home values dropping everywhere you might not be able to refinance this home equity loan in the future. Better safe than sorry.
4. A home equity loan typically has low closing costs and are usually in the couple of hundred dollars to do. This is much cheaper than redoing your first mortgage which closing costs on first mortgages range in the $3k-$4k area. Home equity loans will also close in a faster time. Most mortgage companies can have your home equity line of credit done and closed in sometimes a week. A first mortgage will take anywhere from 2-4 weeks to close mainly because there is more title work to do.
5. So how does paying off your credit card debt with a home equity loan improve your financial situation? Let’s say you have $30k in credit card debt spread over 3 different credit cards with an average interest rate of 19%. Credit cards are based on a variable rate and are calculated much differently. You are required to make a 4% monthly payment to the credit card companies because now they want their money back. So $30k x 4% = $1,200 a month in total monthly payments you need to make to them. The sad thing is that if you never use your credit card again and just make the $1,200 a month payment it will take you 16.7 years to pay off the entire credit card balance and you will pay $19,469 in interest on that $30k. So the $30k you racked up in credit card debt really costs you $49,469 over a 17 year period (you can figure this out with a credit card payoff calculator). Not good news.
6. This is where the home equity loan comes in to save you. Even if you make decent money between you and your spouse it just seems that everything you make is going right out the door to cover the credit card bills. The sad thing is that the $1,200 payment is barely even making a dent in your balances. More than likely you need to use your credit cards every month anyways to make the payments because you do not get paid in time. Your credit score might be low on your credit report but we are going to assume you can at least make your monthly credit card minimum payments.
7. The home equity loan is a 30 year adjustable loan (very few are fixed) where the first 10 years of the loan are a interest only payment period. After the 10th year it turns into a 20 year principal and interest loan whre you are required to start paying the line of credit back. The interest rates for the home equity loans are based off of the prime rate which is set forth by The Federal Reserve. Right now the prime rate is low and you can find home equity loan rates in the 5%-7% range depending on your credit score, loan to value, and some other factors. A home equity loan is also called a second mortgage. Second mortgage rates are typically higher than first mortgage rates due to a number of different factors but being a risky loan is one of the top reasons. You can borrow up to the maximum amount at any time. Some banks give you a checkbook for your HELOC and you use it just like your personal checking account. At the end of the month you get a bill showing what you used it for and a new monthly payment. Since the home equity loan is considered a lien against the home you get to write any interest that you pay on the loan off on your taxes.
8. Going back to our scenario with the $30k in credit card debt. You are able to get the HELOC with a $50k maximum line of credit but you only need the $30k to pay off the credit card debt. Remember that there is another $50k – $30k available to use at any time for you, but you only pay on what you borrow. So you are only going to be paying on the $30k. Let’s say you get approved on the HELOC for 6%. This is a lot better then the 19% you were paying on your credit card. Right off the get go you are saving 13% in interest. Now you are also getting a bigger tax write off too. Good news everywhere.
9. Your monthly mortgage payment on the $30k at 6% is $150 interest only. A easy way to figure this out is take the balance $30k x mortgage rate of 6% = $1800 which is your yearly required interest payments, than divide by 12 which equals $150. So now you go from paying $1,200 a month on your credit cards to $150 on your HELOC. This saves you $1,200 – $150 = $1,050 a month in payments. This is exciting news for you. Over a year that is $1,050 x 12 months = $12,600 in cash back in your pocket. Imagine how fast you could have $50k saved up in a bank account or retirement account now. You can more than afford the $150 payment. If you do not put more than $1 on top of your home equity loan payment in 10 years the balance will be the same $30k because you were only paying interest. Now you have to start paying it back on a 20 year amortization schedule which will be $214.93 a month. Still very affordable.
10. The best thing you could probably do is if you are accustomed to making the $1,200 payment a month to the credit cards than you should make that payment to the HELOC. Now every single month the balance will drop by $1,200 – $150= $1,050. In a year you could pay down $12,600 of the balance. If you made the $1,200 payment every month you would have the home equity loan paid off in 2.23 years. This is much better than paying interest on credit cards for 17 years. What is also neat about the HELOC is that your payment re-adjusts every month to the new payment. Let’s say you get the balance down to $20k. Your required interest only mortgage payment will be just $100 a month. As you can see, it pays to pay more. More of your payment will be going to the balance. If you get into a tight situation one month than don’t make the larger payment but pay in cash. Once things pick back or resume withe the larger payments. You will see that your credit score wis going to jump up considerable within two months after paying the credit cards off. Do not close out your credit cards. You will need to keep them open because you have all of that time showing payments being made. Cut the credit cards up and never use them again, just do not call the bank and say you want to close them. You need to show a history of payments on those credit cards. There are two things that everybody should do at this point. Never close your home equity loan. Most home equity loans do not have a yearly servicing fee to keep it open so just keep it there. You never know when you might need that money for an emergency like a job loss or medical expenses, etc. The second is to not see this extra $1,200 a month of money as a reason to go out and buy more stuff and rack up the credit card debt again. Be responsible with your money and start paying it back. This is your opportunity to pay it back faster and you better take it and do the right thing.