Living paycheck to paycheck?
You’re not alone. Canadians are carrying heavier loads of personal debt than ever before. For some of us, the cost of servicing those debts is in itself an obstacle to correcting the problem. Each month can be a chase to make the interest payments to keep the debt afloat. Sometimes, it may help to consolidate debt into your mortgage.
Unsecured debt is often bad debt
The difference between credit card debt or unsecured debt, versus a mortgage, can mean thousands of dollars. As you may know, the interest you pay on a credit card or unsecured credit line is typically much higher than on your mortgage. Because of this, using your home equity to pay off your high-interest credit card debt can save you money in the long run.
That said, deciding whether it makes sense to refinance your mortgage will depend on your individual situation. Either way, with the right plan in place, you can be well on your way to a strong new financial life. If a consolidation is the way you decide to go, every month you could be seeing the difference: a boost to your monthly cash flow, one easy payment, faster debt paydown, and potentially thousands of dollars in interest savings.
Replacing high-interest debt with mortgage debt
It might be helpful to use your home equity to consolidate your high-interest debt into a new or existing mortgage. Why? Credit card rates can be 4-5 times as high as your mortgage rate. Just compare with what you’re paying on your credit cards and other debts. And so-called debt consolidation loans are often at a much higher rate than your mortgage as well.
How does the process work?
We start by doing an assessment of your situation. We list your current debts – both the total amounts owed and the monthly payments you have to make. We then create a scenario that takes into account your potential new mortgage, with the applicable monthly payment. We also look at your home’s current market value, to make sure that a new mortgage can be registered against it. Your new mortgage amount needs to be less than 80% of the home’s market value.
Here’s a debt consolidation example:
Let’s say your mortgage, car loan and credit cards total $225,000. If you roll all that debt into a new mortgage, even if you include the estimated fee to break the existing mortgage, you can see the payoff in monthly cash flow:
Current Situation*
Monthly payments on $175,000 mortgage – $969
Monthly payments on $25,000 car loan – $495
Monthly payments on $25,000 in credit card balances – $655
Current total monthly payments: $2,119
New Situation*
Monthly payments on $233,000 mortgage (debts + early payout penalty on mortgage) – $1,176
Monthly payments on paid off car loan – $0
Monthly payments on paid off credit cards – $0
New total monthly payments: $1,176
That’s $943 less each month! Now decide how to use that $943. You can use part of it to make extra payments on your mortgage – for example, if you put $500 into your mortgage payment in this example, you’ll reduce your amortization from 25 years to 15. Or you could invest in RRSPs or RESPs and reap some tax benefits. Or consider putting some funds aside each month into an emergency fund – so you never have to run up the credit cards again.
Assumptions used:
*4.5% current mortgage, 3.6% new mortgage, 25 year am. Credit cards 19.5% and car loan 7%, both at 5 year am. OAC. Subject to change. For illustration purposes only.
Want to chat about your options?
If you would like to explore your refinancing options, please don’t hesitate to contact me. I’d be happy to put together some scenarios for you to think about, so you can figure out if a consolidation is the right solution for you.
Image credit: [c] Suriyawut Suriya for vecteezy
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