Debt Consolidation Refinance Basics

Learn about Debt Consolidation
Refinance Home Loans, and the potential for savings, debt-relief, cash out, and improved credit.

A Debt-Consolidation refinance is the same as a Standard Refinance except that your exisiting mortgage is combined with such items as credit cards, auto loans, home equity loans and lines of credit, etc., into one new mortgage.

In most cases, a significant monthly savings is realized, even when taking cash out. There can be many benefits to a debt consolidation refinance, including lower monthly payments, lower number of monthly bills to pay, improvement of credit scores, and cash-out, among others.

Benefits of a Debt Consolidation Refi

There are many scenarios where a debt consolidation refinance mortgage provides significant financial benefit to a borrower. We will discuss the two most common items people choose in a debt consolidation refinance:

Credit Card Debt and Home Equity Loans. Student loans and auto loans are also items that many choose for a debt consolidation, along with getting cash-out.

Debt Consolidation Refinance
and Credit Cards

Credit card debt is most likely the biggest reason people choose a debt consolidation refinance. Unforeseen expenses and events in our lives make it easy to rack up large credit card bills. And lets be honest, some love to shop!

The dirty word associated with credit card debt is “Revolving Interest”. Revolving interest is compounded daily instead of monthly. You make the monthly minimum payment month after month and the balance never seems to go down. That is because over 95% of your payment is applied to interest and less than 5% toward your principal balance. Short of an unexpected windfall, it may seem you’ll never be paid off. Consolidating credit card balances into a fixed-rate amortized mortgage payment can make sense, as your home loan is paid off on a fixed schedule with a debt consolidation mortgage.

Interest rates on credit cards are very high and can reach over 20% in some instances. It’s no wonder that people choose to convert that into a 6% fixed rate mortgage. Furthermore, the conversion of credit cards into a debt consolidation mortgage translates to a larger mortgage interest deduction. Mortgage Interest is tax deductible. Credit Card Interest is not an allowed income tax deduction.

Total monthly payments can be significantly decreased with a debt consolidation refinance. It is not uncommon to reduce monthly payments from $500 to $1000 by consolidating credit cards alone! Those savings can go a long way in relieving the monthly stress of bills. The amount saved can be used for savings, investment, or to decrease the term of your new mortgage by paying an additional sum each month applied directly to the loan principal.

A cold reality is that credit card debt can cause some to lose financial control of their lives when it becomes difficult, if not impossible to meet the monthly payments of the household. This can have a negative impact on all parts of people’s lives, not just financial.

As long as the borrower has enough equity in their home, they can erase the credit card bills and gain that control back again. We live in a numbers world, but there is no price that can be put on gaining a peaceful state of mind.

Debt Consolidation Refinance and
Home Equity Loans

Home equity loans are another big item that borrowers include in a debt consolidation refi. Combining 1st and 2nd mortgages into one new home loan can make good financial sense when rates are low and there is adequate equity in the home.

Many home equity loans carry a high rate of interest, including those taken out originally as a piggyback loan (taken out at the same time as the 1st mortgage to eliminate mortgage insurance). In many cases, the borrower’s 1st and 2nd mortgage have a rate of interest higher than the current market rate of interest which results in significant savings or the option to combine both loans into one shorter term loan for the same current payment or lower.

Many borrowers consolidate home equity loans that have Balloon Payments coming due (entire balance due on a specified date). This can amount to a significant payment due, especially on the interest-only home equity type loan. A debt consolidation refinance can help the homeowner who does not have the funds to pay it, or does not wish to use freed-up cash to close the loan.

There are two major qualified types of home equity loans; “Fixed Rate” and “Home Equity Line of Credit”.

Fixed Rate home equity loans are paid on a fixed and amortized schedule and are satisified at the end of the loan term. Fixed Rate home equity loans can be paid off with a fixed rate debt consolidation refinance mortgage.

A “Home Equity Line of Credit” (HELOC) is a revolving credit line, and really just like a large credit card that is secured by your home. Just like credit cards, paying the minimum amount due each month will make it seem like the principal never decreases. HELOCs are a variable interest home loan usually tied to the Prime Rate plus a margin. HELOCs can be paid off with a fixed rate debt consolidation refinance mortgage.

Debt Consolidation Refinance
and Debt Ratios

Debt Consolidation refinance has a positive impact on debt ratios for qualification purposes. Items chosen to be paid-off in the new loan are not included in the debt ratio. This can make the difference between loan denial and approval for a new home loan.

For example, suppose you want to refinance your mortgage into a much lower interest rate, but hadn’t considered consolidating your credit card debt with a debt consolidation refinance. You have a good credit score and plenty of equity in your home, but the qualifying “debt-to-income” (DTI) ratio of .50 is going to be close. The DTI is figured by dividing your proposed Total Monthly Housing Expenses (monthly mortgage payment, plus property taxes, plus homeowners insurance, plus household expenses) by your Gross Monthly Income.

Click Here: Debt Consolidation and Debt Ratio Example

The previous example illustrates Debt Consolidation’s impact on the DTI. Debt Consolidation really can and does make a difference in many loan scenarios.

Debt Consolidation Refinance
Impact on Credit Scores

Debt Consolidation refinance loans can also produce a positive impact on credit scores. Credit reporting agencies place a large emphasis on an individual’s “credit mix”. Basically, once an individual account balance exceeds approximately 30% or more of the total credit limit on that same account, it has a negative impact on your credit score.

Many experience a significant increase in their credit scores after a debt consolidation refinance. This is due to the fact that their credit accounts have been paid off and reduced to zero.

An increased credit score will create better financial terms for any future credit related transaction.

Differences Between Debt Consolidation (Cash-Out) Refinance and “Rate and Term” Refinance

Rate and Term: A “rate and term” refinance is one in which the borrower wants to refinance their 1st mortgage only, and does not request any cash-out. Most commonly, this type of refi is done to lower interest rates and payments, reduce the term of the mortgage, or to move from an adjustable (ARM) loan into a fixed-rate mortgage.

An R/T refi will give the borrower slightly better rates (normally by 1/8 to ¼ percentage points) and will usually allow a higher maximum loan amount (95% Loan to Value) as compared to a debt-consolidation refi. For example, if the qualified borrower’s home value is $100,000, they could refinance into a loan amount of up to $95,000.

Debt Consolidation Refinance (Cash-Out): Many borrowers are unaware that a debt consolidation refinance loan is also considered a Cash-Out Refi. This can be confusing to those that are consolidating credit cards, home-equity loans, auto loans, etc, into their new mortgage, yet not requesting any cash-out.

The only exception to this classification is when you are consolidating a first and a second mortgage and the second mortgage was taken out on the same day as the first mortgage (common loan scenario among previous low down-payment homebuyers that utilized this strategy to eliminate mortgage insurance). The second mortgage is commonly termed a piggyback loan in this situation. This scenario classifies as a Rate and Term loan, not a debt consolidation refinance.

Debt Consolidation Refinance Conclusion

In any event, the Debt Consolidation refinance loan will give you a slightly higher rate of interest as compared to a “Rate and Term” refi. Also, lenders will normally limit the maximum loan amount to 90% (LTV- Loan to Value) of the value of the borrower’s home in a cash-out refi situation.

For example, if the qualified borrower’s home is valued at $100,000, they could refinance into a loan amount of up to $90,000. (The exception to this would be a FHA refinance, which will allow up to a 95% LTV for a cash-out refi).

A slight bump in interest rate or limit on LTV is a small price to pay for many who carry high interest credit card balances, 2nd mortgage balloon payments coming due, or need cash out for important purposes.

Monthly savings frequently result in the hundreds of dollars with a debt consolidation refinance, even when the borrower takes cash out. Converting revolving credit card interest into mortgage tax-deductible interest and fixed amortized payments are another often overlooked benefit of debt consolidation.

A debt consolidation refinance can make a huge positive financial difference for individuals carrying too much debt.

Need Help With Your
Debt Consolidation Refinance?

We Do Things Differently!

When you submit a request for a Free Debt Consolidation Refinance Rate Quote with the Refinance ToolBox, you get only One Call, from your assigned refinance mortgage professional, Not the 10’s to 100’s of calls you will receive from the typical debt consolidation “Free Quote” sites. We do not sell or share your information with anyone else. Instead of the offer for competing home loan refinance lenders to contact you individually, We Shop the Lenders For You, and with direct lender status, cut out the middleman to boot!

Having access to the biggest debt consolidation refinance lenders and most diverse investors allows us to pass along the rate savings to you. As an added benefit, you won't need to change your phone number, you'll be working with an experienced and honest mortgage professional that understands debt consolidation refinance.

If you are looking to do a debt consolidation refinance and want to see the current Best Rate and Fee Programs on the market, request a Free Debt Consolidation Refinance Rate Quote with us now.

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