If you have a lot of credit card debt, you’ll want to pay it all off at once. For some people, a home equity line of credit (HELOC) is the answer. This is basically borrowing money from a new source to clear the amount owed from an old source, i.e. exchanging one debt for another. But this new debt could be easier to deal with.
Here’s what you need to know about using a HELOC to pay off your credit cards: the pros and cons.
What is a HELOC?
A HELOC (Home Equity Line of Credit) gives you a revolving line of credit against the available equity in your home. You do not have to pay off the mortgage on your home to qualify for this line of credit. But the lower the balance, the more funds are available in the HELOC.
A typical HELOC term or life is 25 years, which includes both a withdrawal period and a repayment period. During the draw period, which can last up to 10 years, you can use the funds in your line of credit up to your credit limit. During the repayment period, which lasts for the remainder of the HELOC term, you will not be able to draw from the line of credit and you will be required to repay any outstanding funds. You’ll pay interest on your HELOC during both the withdrawal and repayment periods, so be sure to shop around in advance to ensure you get the best HELOC interest rate.
How to make credit card payments using a HELOC
The strategy is simple. Apply for a HELOC. A HELOC is a line of credit based on a percentage of your home that you own outright (not a mortgage). Once your credit limit is established, you withdraw against it and use the funds to pay off your credit card balance.
Of course, you have to pay back the money you borrow from a HELOC, but that usually takes a long time, 10 to 20 years. And HELOCs can have much lower interest rates than credit cards or personal loans.
Benefits of using a HELOC to eliminate credit card debt
There are several benefits to using a home equity line of credit to pay off your credit cards.
you remove all your debts at once
Instead of paying off your credit card debt piecemeal (like a snowball or avalanche), a HELOC lets you pay it all off at once or within a few months. If you’re currently feeling overwhelmed with outstanding balances, a HELOC can provide significant emotional relief.
interest rates are likely to be lower
The average interest rate on credit cards is over 20%. In contrast, the average interest rate on a HELOC is hovering around 9% as of March 2024. Keep in mind that these are variable rates, so they can go up or down depending on the prime rate. However, even if HELOC interest rates rise, they can still be significantly lower than credit card APRs.
Your financial profile will improve
Of course, you can earn more discretionary income by paying off those high-interest balances. If you have no debt on your record, your FICO credit score should also increase. Because a HELOC is secured in your home, its balance is not taken into account when calculating your credit utilization ratio, which is one of the factors that determine your score. (However, the HELOC itself will appear on your credit report.)
Why shouldn’t I use my HELOC to pay off my credit card?
Using a HELOC for debt consolidation is not without risks.
You may end up incurring more debt
No one pays off a credit card with the intention of immediately increasing the balance again. But if you don’t practice healthy financial habits, you’re likely to find yourself back where you were sooner or later.
If you use your HELOC to pay off your credit card and then start using it again. both Credit card debt and HELOC debt must be paid off. Additionally, during the HELOC draw period, you may be tempted to use your leftover credit, which could lead to more debt. It can be easy to lose track of how much you’re using.
I might lose my house
A HELOC debt is a secured debt. This means that if you don’t repay the loan in full, the lender has the right to claim what it pledged as collateral. With a HELOC, it becomes your home. With a HELOC, you run the risk of foreclosure if you miss a payment or fail to repay the principal within a specified period of time.
May experience sticker shock
Many HELOCs allow you to make interest-only repayments during the drawing period. If you give in to that temptation, your monthly repayments will increase rapidly once the repayment period begins. This is because the payment will include the principal amount. and interest. If interest rates also rise, your monthly payments could double or triple what they were before. If you are not prepared for the increase, it can be a huge blow to your household finances.
Which is better for debt repayment: HELOC or HELoan?
HELOCs and home equity loans (HELoans) can both be effective ways to pay off debt. However, for credit card debt, HELoan may have a slight advantage.
You probably know (or can calculate) the exact amount owed on your card. And you’ll probably want to clear them as quickly as possible since these high APRs will increase your balance at a rapid clip. This situation is ideal for home equity loans, where you pay money in a lump sum and repay it in monthly installments with a fixed interest rate. In contrast, HELOCs have variable interest rates and long withdrawal periods, making them a good choice when you don’t know the exact amount you need or for expenses that occur over a long period of time (such as college tuition or contractor bills). Masu. long-term construction projects).
Additionally, home equity loans typically have lower interest rates than HELOCs. (As of this writing, the average interest rate is 8.4%.) Of course, you’ll pay that interest for the life of the loan.
Here are some other comparisons.
HEROX VS. HOME EQUITY LOAN
| cost | preferred tool | why is it meaningful |
|---|---|---|
| emergency | heron | It’s probably a fixed amount so it’s better to pay it off as soon as possible. |
| Starting a business | HELOC | Costs are indefinite and accrue over a long period of time |
| credit card balance | heron | You can add up exactly how much you need to pay off all the plastic, but you’ll probably do this all at once. |
| university tuition fees | HELOC | You can withdraw funds as needed, just for semester, quarter or half-year payments |
| A multi-month, multi-faceted home improvement project | HELOC | Staged withdrawals are great for paying contractors in installments. If your project has cost overruns, a reserve is set aside |
| medical bill | heron | It is best to pay off this bill in full as soon as possible. |
What are the HELOC alternatives for making credit card payments?
HELOCs aren’t the only debt resolution tool in town. Many of these options mean you don’t have to put up your home as collateral.
debt consolidation loan
One option is to consolidate all your credit bills and pay them off with one low-interest debt consolidation loan. A reputable debt counseling service can help you do this, as well as provide guidance on how to manage your finances and pay off your balance over time. However, be aware that this strategy can have negative consequences for your credit score.
personal loan
Personal loans are easier and faster to obtain if you have a very high credit score (720 or higher) and can even have interest rates comparable to HELOCs. The disadvantage is that their terms are usually short.
balance transfer credit card
Transferring unpaid debt from one credit card to a new credit card is called a balance transfer. This strategy helps you take advantage of low promotional interest rates. You may even be able to find a card with 0% APR for 1-2 years. See if you can pay off your debt before the introductory interest period ends.
cash out refinance
Similar to a HELOC, a cash-out refinance allows you to leverage the equity you’ve built up in your home over time. Instead of taking out a larger mortgage, you get a lot of cash that you can use to pay off your credit card debt. Cash-out REFIs have lower interest rates than HELOCs and are comparable to typical mortgage rates. Of course, it could be higher than your current mortgage interest rate. The downside is the hassle of having to go through the application and underwriting process multiple times, as well as having to pay closing costs.
We have a more comprehensive guide to your options.
Key points about HELOC and credit card debt
When it comes to paying off credit card debt, you have many options. Using a HELOC is just one of them. If you own a significant amount of equity in your home outright, have access to large amounts of borrowed funds, and have interest rates on outstanding card debt in the high double digits, using a HELOC to settle your credit card balances may make financial sense. It’s reasonable.
However, this strategy comes with risks, including the risk of losing your home. If you have a good amount of home equity available and can get a low interest rate, it may be your best choice. However, be sure to compare annual interest rates and understand repayment terms. When your life is at stake, you don’t want to be caught by surprise.
