I know a lot of people who’ve tried to “borrow themselves out of debt” recently.
It makes sense at first glance to pay off your credit cards at 10% with a home equity loan at 6 or 7 percent. Especially if you’re in really deep. And after all, you’ve got all that home equity just sitting there.
First off, does your house look like a piggy bank?
Second, a credit card has a higher interest rate becaues the debt is not secured. That means there’s no collatoral. If you don ‘t pay, they can’t come take something to pay back the debt, like with a home or auto loan. You’re paying the higher rate in exchange for the lender’s higher risk.
If you borrow against your home to pay off un-secured debt, your buying your way out of debt by putting your home at risk. YIKES!
In the event of a real estate collapse like this one, if you lost your job and had to sell your house, the sum of your home equity loan and mortgage balance could end up being worth more than your house can sell for. A term also called being “under water.”
Think about this if you’re being tempted by the lower rates on secured loans right now. Borrowing your way out debt doesn’t work. I heard Dave Ramsey on TV last night say that nobody has ever dug their way out of a deep hole. Makes sense to me. Hard work, cost cutting and serious budgeting is still the way to get out of debt.
Just my $.02 for today.
We’re halfway through our special month on financial litercay. Do you have topics that we should feature? I’ll do the research and the legwork and offer a completely unqualified but “if I were in that position” opinion, followed by my usual disclaimer that for financial advice you should seek out the paid advice of a qualified professional. But I always enjoy the learning experience!