Refinancing Your Home Loan to Consolidate Debt: A Complete Guide

If you have lots of high-interest debt, the monthly costs can overwhelm your budget. For some, the best road out of this situation is debt consolidation.

Debt consolidation pays off your high-interest debt with one, lower-interest loan to save on interest payments.

At today’s mortgage rates, a debt consolidation refinance or home equity loan can be a great way to save money. But this strategy can also be risky, so be sure to weigh the pros and cons before applying.

Refinancing your home loan to consolidate debt can be a smart financial move for some homeowners. By rolling high-interest debts like credit cards or personal loans into your mortgage you can potentially save thousands of dollars in interest charges. However refinancing also comes with costs and risks that need careful consideration. This comprehensive guide explains everything you need to know about refinancing to consolidate debt.

What Is Refinancing to Consolidate Debt?

Refinancing a mortgage simply means taking out a new home loan to replace your existing one There are a few different ways to refinance

Rate and term refinance – You get a new loan with better terms but maintain around the same balance. This lowers your monthly payments.
Cash-out refinance – You take out a larger mortgage than your current balance and get the difference in cash. This is used to consolidate debts.
Streamline refinance – Only available for government-backed loans like FHA and VA. Lowers rates and payments without undergoing full underwriting.

With a cash-out refinance, you can pay off cards, loans, medical bills and other debts and wrap them into one single monthly mortgage payment. By extending the debt over your mortgage term of 15-30 years, you also get lower interest rates compared to short-term debts like credit cards.

This can make repayment more affordable and manageable. Instead of juggling multiple payments at high rates each month, you have a predictable mortgage payment at a lower fixed rate.

Pros of Refinancing to Consolidate Debt

Here are the main benefits of using a cash-out mortgage refinance to consolidate other debts:

Lower interest rate – Mortgages have much lower rates than credit cards, personal loans and other common debts. This saves substantially on interest charges over the loan term.
Single monthly payment – Making just one predictable payment can simplify repayment and budgeting each month.
Longer repayment term – Stretching debt out over 15 or 30 years reduces the monthly payment. This frees up cash flow.
Tap home equity – For homeowners with equity built up, it allows borrowing against this equity to pay off debts.
Improve credit – If you can consolidate multiple accounts and cards into one loan, it can improve your credit utilization ratio.
Pay off debts faster – The equity you access can completely pay off debts faster than just making minimum payments.

Cons of Refinancing to Consolidate Debt

However, there are also some potential drawbacks to keep in mind:

Closing costs – Refinancing comes with upfront fees like origination costs, appraisal, title insurance and more. This averages $5,000-$6,000.
Higher monthly payment – If you end up with a higher mortgage balance after cashing out equity, the payment could rise, even with a lower rate.
Loss of equity – Tapping equity through a cash-out reduces the equity stake in your home.
Extending repayment term – Adding years to your mortgage means paying more interest over the life of the loan.
Risk of default – A higher mortgage balance makes it riskier if you face financial hardship later. You could lose your home.

Steps for Refinancing to Consolidate Debt

If you’ve weighed the pros and cons and decided refinancing makes sense, follow these key steps:

1. Review your budget – Make sure your income can support the increased mortgage payment if you cash-out equity. Build some room into your budget.

2. Check your home equity – Most lenders require at least 20% equity to qualify for a cash-out refinance. Calculate your current loan-to-value ratio.

3. Shop mortgage rates – Compare rates and terms from multiple lenders. Aim for the lowest rate possible. Get pre-approved.

4. Estimate closing costs – Ask lenders for a Loan Estimate to see estimated fees. This helps determine if refinancing will be cost-effective.

5. Consolidate debts – Once approved, you’ll pay off debts with the cash-out proceeds and set up the new single mortgage payment.

6. Boost your credit – With debts consolidated, try to keep utilization low and continue making on-time payments to improve your credit.

Refinancing to Consolidate Debt Calculator

This refinance calculator estimates your new loan payment when rolling debts into a new home loan:

10 Tips for Refinancing to Consolidate Debt

To make the most of refinancing, keep these tips in mind:

Shop around – Compare loan estimates from multiple lenders to find the best rates and fees.
Check your LTV ratio – Make sure you have enough equity for lenders to approve a cash-out refi.
Consider a HELOC – Could be an alternative with lower rates and costs. But HELOCs have variable rates.
Don’t tap all your equity – Withdraw a conservative amount to keep enough equity buffer in your home.
Avoid extending your term – Try to keep a similar term to pay the mortgage off faster.
Look for lender credits – Some lenders offer credits to offset closing costs.
Mind closing costs – Closing costs can make refinancing cost prohibitive. Shop around.
Improve your credit first – Months of on-time payments and lower utilization could mean better refi rates.
Pay down debts first – Paying down debts with savings before consolidating means cashing out less equity.
Have a repayment plan – Consolidating debts only works if you avoid running up balances again. Stick to a budget.

Alternatives to Refinancing to Consolidate Debt

Here are a few other options to consider beyond refinancing:

Credit counseling – Work with a non-profit counselor to set up a debt management plan with lower interest rates.
Balance transfer card – Transferring high-rate balances to a 0% card could save substantially on interest.
Debt consolidation loan – Banks and credit unions offer personal loans to consolidate debts at lower rates.
Home equity loan – A fixed-rate home equity loan may have lower rates and costs than refinancing.
Paying debts on your own – If you have a plan and budget, you may be able to pay down debts without refinancing.

The right choice depends on your specific financial situation. Crunch the numbers carefully and consider both refinancing and alternatives before deciding.

Is Refinancing to Consolidate Debt Right for You?

Here are some good signs that refinancing could make sense:

You have at least 20% equity in your home.
Your income is stable enough to support a higher mortgage payment if needed.
You have good credit scores to qualify for low mortgage rates.
You can’t pay off high-rate debts quickly on your own.
The savings in interest charges outweigh the closing costs.
You have a plan to avoid racking up new debts again.

However, watch out for these signs that refinancing may be risky:

You have less than 20% equity and would incur PMI costs.
Your income or job security is shaky.
Your credit score is under 700, so you may get higher mortgage rates.
Closing costs would eat up most of the savings in interest rates.
You have variable income and trouble sticking to a budget.

Carefully weighing all these factors will determine if tapping your home equity to consolidate debt through a refinance makes good financial sense for your situation.

The Bottom Line

Refinancing your mortgage in order to consolidate and pay off higher-interest debts like credit cards or personal loans can certainly be a smart money move. But it also reduces your equity stake in your home and comes with upfront costs.

Run the numbers conservatively, shop mortgage rates from multiple lenders, and make sure your budget can handle the new loan payment. With the right prep work, using a cash-out refinance to consolidate debts can put you on stronger financial footing for the years ahead.

Remember, there are closing costs

Keep in mind that refinancing comes with closing costs, just like your original mortgage did.

These costs often total 2-5% of the new loan amount, so look for an interest rate low enough that you’ll be able to recoup the upfront cost while saving on your external interest payments.

Your cash-out refinance costs can often be rolled into the loan amount, as long as there’s enough money left over to pay off the debts you were hoping to consolidate.

Other debt consolidation mortgage loan options

A cash-out refi isn’t the only way to consolidate debt into your mortgage. You could also get a home equity loan or home equity line of credit (HELOC).

A home equity line of credit (HELOC) works a lot like a credit card; you can draw from the credit line as needed, but it’s secured by your home equity which means a lower interest rate
A home equity loan gives you a lump sum at closing that you can use to pay off your debts. Home equity loans are paid off over a fixed period at a fixed interest rate

Both HELOCs and home equity loans can charge closing costs and/or origination fees.

HELOCs usually have an adjustable interest rate that’s based on the prime rate plus a margin; home equity loans usually have fixed interest rates.

Is A Debt Consolidation Mortgage Right For You?

How do I consolidate debt?

The steps to consolidate debt start with determining how much equity you have and end with using the cash to pay off other debts. If you decide that refinancing isn’t the best move for you, there are alternative options to help you consolidate debt, like a home equity line of credit or home equity loan.

What is a debt consolidation refinance?

This type of mortgage allows you to withdraw your home’s equity and receive monthly payments from your lender. You can use these funds as retirement income, to pay medical bills or for any other goal. Like cash-out refinances, debt consolidation refinances give you cash.

Can I consolidate debt with a mortgage refinance?

If you want to consolidate debt with a mortgage refinance, there are several options available. With a cash-out refinance, you receive a payout at closing by drawing from your home equity and increasing your loan amount. You can use the cash from a cash-out refinance to pay off other higher-interest loans.

Can You consolidate debt with a cash-out refinance?

Homeowners who want to consolidate debt often use a cash-out refinance. This kind of loan uses your home equity — that’s the part of your home’s value you have already paid off — to generate your “cash out.” You’ll be increasing your mortgage balance to provide the cash.