The current financial crisis poses many serious challenges for the average American citizen and high up on the list is the task of dealing with the burden of rising debt. In the best of times people willingly get into debt due to home improvement projects, educational or medical expenses. If you lose your job or your business goes bankrupt, debt often becomes almost inescapable. Your abilities to meet regularly weekly expense become limited and it might not take long before you are confronted with a mountain of debt. Once maximum credit card limits have been reached, credit accounts are going into default, phone calls start coming in from personal creditors, or similar signs appear of debts getting out of control, emergency action is required.
While clearly the best solution to rising debt is to find a way of increasing your income, this may not be possible in the short term and it is therefore worthwhile to consider options that can help alleviate a rising debt burden. People in tight situations due to the downturn of the economy, or because of financial commitments they decided to take on, often find that a debt consolidation plan can significantly reduce the payments they have to make on their debt. The idea is simple —if you are paying high levels of interest on a number of loans, you can take out a new single new loan at a lower rate of interest and pay off all the higher interest loans. If you have fallen into arrears with loan payments, paying off these loans through a loan consolidation is also going to save on the costs of penalties for late payments.
The Home Equity Loan
Of all the various loan consolidation options available, the home equity loan has become one of the most popular choices, so it is worthwhile looking closer at what this involves. Essentially, the home equity loan is a second mortgage. The idea is that the value of your home provides security for the bank against the loan they provide you. To be precise, the value concerned is not the absolute value but how much the home is worth on the open market after subtracting the amount you owe on the house to the bank or other source of mortgage finance used to purchase this property. This amount is known as the home equity.
Depending on how much you still owe on your house and whether or not its value has risen, a bank might be willing to give you a loan for as much as 80% of the home equity. In addition to the home equity loan, there is also the closely related Home Equity Line of Credit (HELOC) where the loan is extended in the form of a line of credit. Personal circumstances and preference determine which of these loan formats is going to be the best to pursue.
Principal Advantages of Debt Consolidation Using Home Equity Loans
Without a doubt, the potential savings you can achieve via loan consolidation provide sufficient reason for seriously considering a home equity loan. If you are burdened with a number of loans carrying high interest charges, you may effectively only be paying the interest on the loan without making any indent in the principal. If you can pay off existing loans with a home equity loan carrying a lower interest and easier repayments terms, you can begin to reduce the debt principal and avoid interest rates escalating as a consequence of late payments. It is possible to find home equity loans with interest rates as much as ten per cent below the rates charged by credit card companies.
In addition to the benefit of reducing the interest burden, consolidating loans with a single home equity loan brings a number of additional benefits.
- Availability — an advantage of home equity loans to borrowers in financial difficulties is that loans can be obtained even if your financial records would make you a prime target for being refused other kinds of loans. The fact that your home is security for the loan provides sufficient security to the lender against defaulting
- Flexible payments — borrowers welcome the chance to shop around between banks and find a range of home equity loan repayment terms. For some customers, the best option is going to be to take a loan with a relatively short repayment period and higher monthly charges, while others are going to prefer a longer repayment period with lower monthly charges. Payment terms can also be extended or reduced as your personal situation demands. Furthermore, fixed repayment terms can also be arranged and save borrowers from being trapped in costly minimum payment credit arrangements.
- Easier to manage — it is far easier to manage a single loan repayment at a certain date than a number of payment to be made at different times. Leading banks also provide online home equity loan management tools that allow borrowers to reschedule payments and view the loan status online.
- Interest paid on home equity loans may be tax deductible. Tax deductions are not available on credit card payments or auto loan payments.
While the advantages of debt consolidation using home equity loans are clear, this solution also carries potential costs. You may be charged closing fees on loans paid off with the home equity loan and most important of all, if you find yourself in the unfortunate position of being unable to meet payments on the home equity loan your house may be forfeited. However, if you are unable to manage all your current loans and are getting increasingly deeper into depth, the home equity loan may offer you the best chance of escaping this dilemma.