Debt consolidation is a means of combining several debts into one debt that has one monthly payment. The goal of consolidation is to lower the monthly payment and/or the interest rate of your total debt. If you have several high interest credit card debts and other loans outstanding, you may combine these debts into a second mortgage or home equity loan, making one payment to the second mortgage holder or lender.
Homeowner A has $60,000 in equity in his home. He also has the following outstanding debts:
Credit Card 1 - $10,000 balance - 15% interest rate - $350.00 monthly payment
Credit Card 2 - $ 8,000 balance - 17% interest rate - $300.00 monthly payment
Car Loan - $12,000 balance - 10% interest rate - $253.00 monthly payment
Line of Credit - $15,000 balance - 15% interest rate - $353.00 monthly payment
Total $45,000 - $1256.00 monthly payment
The homeowner can borrow $45,000 against the equity in his home in the form of a second mortgage or home equity loan. The lender will pay off each of the other loan holders, and home owner will have no further obligation to them. Based upon a 5% interest rate and a 30 year amortization period, homeowner will pay approximately $240.00 per month. In this case the drop in the monthly payment to the homeowner will be more than $1,000.00.
ADVANTAGES OF DEBT CONSOLIDATION
If a homeowner has equity in their home, and significant high interest debts, debt consolidation can save a great deal in monthly payments, as well as money spent in interest. In the example given previously, the homeowner eliminated 4 monthly payments totaling $1,256.00 to one payment totaling $240.00. Because the interest rates are usually lower than a credit card or signature loan, you may end up paying less over the life of the loan.
DISADVANTAGES OF DEBT CONSOLIDATION
If a homeowner does not have much equity in their home, debt consolidation is more difficult to obtain, and will usually be at a higher interest rate. If the homeowner is in a precarious financial situation and cannot make the monthly payment on the debt consolidation mortgage, it makes little sense to consolidate. If the outstanding debts are already at a low interest rate, and are short term, consolidation may actually cost the homeowner more money.
At First Foundation, we have a great deal of experience in obtaining debt consolidation mortgages for our customers. We will be happy to review your current financial situation to determine if a debt consolidation mortgage is right for you.
If you are interested in learning more about debt consolidation, please feel free to contact us today!