Homeowners

How to Use a Mortgage to Consolidate Your Debt

If you feel overwhelmed by debt, you aren't alone.

Household debt rose to $17.69 trillion in the first quarter of 2024 and delinquencies are on the rise, according to the Federal Reserve Bank of New York.

If you are struggling to pay down high-interest debts, you may want to consider consolidating your debt using a refinance or a second mortgage. This may help some homeowners to lower their monthly debt payments and save money through potentially lower interest rates.

"People are paying 25% to 30% interest on credit cards and personal loans, so consolidating those payments into a mortgage or a home equity loan is very helpful to save money and improve credit scores," said New American Funding Loan Officer Jason Lambert. He is based in Charlotte, North Carolina.

What is debt consolidation?

Debt consolidation is one tool that may help homeowners get unstuck from high-interest debt spirals—especially for those who can secure a new loan with a lower interest rate.

Each line of debt comes with its own interest rate. Higher interest rates can make payments more expensive. It may also take longer to pay off the debt.

The average interest rate on a credit card was 27.62% in the week of July 25, according to Forbes Advisor.

With a high interest rate, you may get stuck constantly paying down the interest on the debt instead of paying off the debt itself.

If the debt continues to increase, as it often does with credit cards, the amount of interest you're paying increases as well. That may feel like an unbreakable cycle.

Meanwhile, rates for cash-out refinance loans and home equity lines of credit are generally significantly lower. Rates can range from 5.75% to 13% depending on your loan type, according to New American Funding Loan Officer Luis Yero. He is based in Tustin, California. (Exact rates vary depending on the loan size, your credit profile, and market fluctuations.)

The lower rates may make these loans appealing to homeowners who hope to consolidate all their debt with a lower interest rate.

"Using a mortgage to consolidate debt [may] give you financial freedom and peace of mind," said Yero.

Using a debt consolidation mortgage

A cash-out refinance or a home equity line of credit (HELOC) are two loan options for consolidating debt.

A cash-out refinance is a home loan that gives you access to some (or sometimes all) of the equity you have built up in your home. It replaces your current mortgage with a new one.

Whatever money is left over after paying off the old loan plus closing costs is paid to you in cash.

A HELOC is a revolving line of credit based on the value of your home. It allows you to use your home equity as credit. You can withdraw what you need over a longer period instead of receiving the cash in one lump sum.

The benefits of using a mortgage to consolidate debt

Consolidating your debt can also help some homeowners to shrink their monthly debt payments.

One of Yero's clients was spending $4,500 a month between their mortgage and credit cards. Yero was able to consolidate $75,000 in debt, saving the clients $2,000 a month.

"It [may] give you lower monthly payments and help repair your credit score," said Yero.

What to consider before consolidating your debt with a mortgage

There are some important factors to consider as a homebuyer wanting to consolidate your debt before getting a new loan.

They include how long you're planning to stay in the home. If you plan to move in a few years, a home loan may not make financial sense depending on your situation.

You should also consider how quickly you would like to pay off the debt and what your residual income is every month.

"Total the balances and payments of the debt you want to consolidate," said Yero. "Then speak with a mortgage professional."