Smart ways to use home equity to pay down debt

Home equity is the difference between your home’s market value and what you owe on your mortgage. Borrowing against that equity gives you access to cash that can be used to pay down debt, but your house is used as collateral, and you are charged interest on the borrowed amount. The main options are:

• Home equity loan: A fixed-interest lump sum with predictable payments
• HELOC (home equity line of credit): A flexible line you can draw from as needed with a typical varied interest rate
• Cash-out refinance: Replacing your current mortgage with a larger one and keeping the difference

When it comes to tackling debt, using your home’s equity could give you some clear advantages over credit cards or personal loans.

Lower interest rates

Home equity financing often carries much lower rates than credit cards or unsecured lines of credit.

Potential for faster payoff

Lower rates mean less of your payment goes to interest, helping you to pay down your balance faster compared to higher-rate credit cards or unsecured lines of credit.

Simplified payments

Consolidating multiple debts into one often results in easier budgeting and sometimes lower payments overall.

Here are some useful ways to put your home equity to work, but keep in mind there is some risk because your home is used as collateral:

• Consolidate multiple debts into a single payment via a refinance
• Pay off credit cards with a home equity loan at a lower interest rate
• Pay off personal loans
• Use a lump sum to eliminate a major monthly expense (like a car loan or student loan)

For some borrowers, using a home equity loan to pay off a single large balance can provide the biggest impact. Again, it should be considered carefully, as your home is used as collateral and a lender can take possession if payments aren’t made.

It’s important to consider the pros and cons of using home equity to pay off high-interest debt before moving forward. While there may be some clear advantages, tapping into your home’s equity also comes with a few downsides you’ll want to keep in mind: 

• Risk of foreclosure: Using home equity irresponsibly could put your home on the line if you fall behind on payments.
• Higher total interest: Extending your loan terms may increase the overall interest you pay.
• Reduced future borrowing power: Tapping into equity now may limit options for future loans or emergencies.
• Upfront costs and fees: Expenses such as appraisal, origination or closing fees can add to the overall cost of borrowing.

Whether this approach makes sense depends on your overall financial situation and ability to manage repayment responsibly.

Home equity isn’t the only way to tackle debt. Here’s how a few other solutions stack up:

Compared with home equity financing, these options often carry higher interest rates but involve less risk since your home isn’t used as collateral.

Here are the basic steps:

1. Assess your equity: Estimate your home’s value and subtract what you owe.
2. Check credit and income: Lenders typically look for a strong credit history and a steady income.
3. Compare lenders and products: Check rates, fees and terms for both home equity loans and HELOCs.
4. Submit documents: Expect to provide pay stubs or proof of other forms of income, tax returns, proof of insurance and possibly a current appraisal.