by Bo, June 06, 2011
When looking for a way to manage their debt, many people resort to home equity loans to pay off their high interest debts. While this type of transaction has many benefits, there is also much risk involved. Failure to understand this risk could lead to the eventual loss of your home.
Benefits Of Using A Home Equity Loan To Pay Off Bills
Paying off your unsecured debts by using a home equity loan has the specific advantage of reducing your overall debt by reducing the amount of interest you pay on that debt. Credit card companies can charge in excess of 29% for interest on their debts. On average, a home equity loan will charge about 10%. This is a significant difference. When you reduce your interest debt by 2/3, you significantly reduce your debt burden.
Another benefit to using a home equity loan to pay off credit card debt is the reduction in payments being made each month. The time, energy and cost associated with paying multiple bills each month disappears when you use a home equity loan. You simply post one payment a month by paying with your personal checks from your bank and you are done. This reduces the cost of preparing and mailing bills and decreases the amount of bills that could be processed late, increasing your credit score. However, despite all these benefits there is a drawback to using a home equity loan to pay off your debt.
Drawback Of Using A Home Equity Loan To Pay Off Bills
The largest drawback of using a home equity loan to pay off your debt is the risk of creating debt again. Far too many people will pay off their debt using this type of loan and, after a month or two, begin charging on their accounts again. Very soon credit card bills begin to pile up once more, except this time there is also the second mortgage to pay.
People that are unable to afford their credit card bills and their second mortgages face the possibility of bankruptcy or, worse yet, foreclosure. It would be much better to simply cut up the credit cards and within your means and pay everything with checks. It is a common mistake to believe that your home cannot be foreclosed upon when you default on a second mortgage or home equity loan. You can lose your home if you default, even if you are current on your first mortgage. A person who uses a home equity loan must be diligent not to resume their previous spending habits so that they can maintain the new financial security that they have.