More Households Have More Debt Than Ever Before
Are you struggling with high-interest debts from personal lines of credit, credit cards, and car loans, feeling like you can’t get ahead? You’re not alone. Check out the below video that models how leveraging your equity might save you money – or read on…
According to NerdWallet, the average homeowner carries $165,388 in debt. Not all this debt may come with high interest, but if it does, and you have equity in your home—as many Americans do—there’s an alternative strategy that could really help you get ahead and save.
In today’s financial climate, many homeowners overlook an asset they could leverage to ease financial stress and save money: their home equity. Consolidating debt through a cash-out refinance, using the equity in your home, can make a lot of sense—both dollars and sense—depending on your individual situation.
Refinances now account for almost a third of all mortgage transactions, a trend that underscores how homeowners are increasingly tapping into their home equity. This shift coincides with a period when credit card interest rates are climbing, some reaching as high as 25%, a byproduct of Federal Reserve rate hikes. Furthermore, as individuals see their savings dwindle, the search for effective debt management alternatives becomes paramount.
But you might wonder, what about my low mortgage rate?
This is where the concept of ‘blended interest rates’ comes in:
Understanding ‘blended interest rates’ is crucial to see why releasing a lower mortgage rate could be a sensible choice. Homeowners often balk at refinancing because they currently benefit from a low mortgage rate. What they may not consider is the overall effect of their combined debts on their finances. A homeowner might enjoy a low mortgage rate, but when car loans and credit card debts are included, the blended rate can rise sharply—sometimes more than double their mortgage rate.
Consider this real-world scenario:
Let’s illustrate this with a tangible example. A homeowner purchased a $500,000 home four years ago, taking out an initial loan of $400,000. After regular payments, they now owe $362,000 at a mortgage rate of 3.25%, with 28 years left to pay.
At first, refinancing at a higher rate might seem illogical, especially considering the closing costs of refinancing. But looking closer, imagine this homeowner has also racked up $104,000 in various high-interest debts. Through a cash-out refinance, they could clear these debts using their home equity.
Even if the new mortgage has a higher interest rate of 7.75%, their monthly payments would decrease substantially after consolidation—from $5,710 to $4,152. That’s a savings of $1,558 per month, equivalent to an extra $30,000 to $35,000 in annual income before taxes. This isn’t just a saving; it’s transformative.
The Long-Term Benefits
The benefits extend beyond immediate monthly savings. If the homeowner reinvests these savings back into their mortgage payments, they could significantly shorten their loan term. By maintaining their pre-refinance payment levels on the new loan, they might reduce their mortgage term to just under 13 years from the original 28—cutting off about 15.5 years’ worth of payments.
And the benefits begin right away. Within five years, the homeowner could be $45,000 less in debt than if they hadn’t consolidated. This saving would increase to $192,000 over ten years.
The Bigger Picture of Savings
By the end of the new mortgage’s term, the homeowner would have paid off the house and all consolidated debts, saving a total of $294,000 compared to sticking with the original loan at 3.25%. Additionally, they would free themselves from mortgage and credit card payments much sooner.
