Finance
How Refinancing a Mortgage Can Help
When it comes to consolidating debt by refinancing a mortgage, a lot of non-finance people will claim it to be a “bad” thing. After all, these people have probably worked very hard to pay their mortgage down and are now enjoying the fact that their shortened remaining amortization will make them among the few who are mortgage-free. Without a doubt, their hard work deserves recognition.
However, carrying a mortgage and making payments when the remaining amortization is low while simultaneously carrying large consumer debt makes no sense. In fact, this is where refinancing a mortgage makes the most sense. Since the equity in your home can secure better rates, even if it means giving up some of that equity, it is to your financial benefit to incorporate consumer debt. Here are three of those benefits.
First off, interest rates on consumer debt are normally way higher than rates people pay on mortgages. This is because real estate is still considered the best form of consumer collateral. Refinancing a mortgage to pay out consumder debt means lower interest costs over the course of the repayment period. Since people owe this debt regardless of whether it is secured by a mortgage or unsecured, the only difference is that consumer debt gets paid with the mortgage and not with mailed credit card or loan statements. What will you do with the interest savings?
The second is that consumer debt typically comes with a higher monthly payment amount compared with mortgages. The reason is simple; mortgages can be amortized over longer periods (typically decades) where consumer debt is normally repaid over shorter periods (rarely even close to a decade). For cash flow reasons, it makes sense to refinance a mortgage. To illustrate, consider a $50,000 loan repaid over 72 months at a rate of 8.9% versus a mortgage of the same amount repaid over 25 years at 5.75%. The difference in cash flow is $586.24 if this debt were finances as a mortgage. What would you do with this much extra cash every month?
Third is for the sake of simplification. Since the typical North American will have a balance on thirteen different credit cards, the typical North American is making thirteen different payments to credit card companies and one mortgage payment. By refinancing a mortgage, that would leave just one payment. Now what would you do with that extra time!
Understandably, people do not intend on refinancing a mortgage so that they can carry it forever; the goal is ultimately to be mortgage-free. But carrying consumer debt for the sake of being mortgage-free is counter productive, especially when you consider the costs, payments, and time involved with carrying such debt. In terms of risks, they are the same; whether you have 80% equity in your home or 10% equity, if you stop paying that mortgage, your lender will foreclose. Therefore, it makes sense to use your equity to reduce costs and increase cash flow. With this in mind, refinancing a mortgage to repay consumer debt makes perfect sense.
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