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Behind on Credit Cards: Is a Home Equity Loan the Solution?

Arizona home with home equity loan
Written by Paul Deloughery

During this Coronavirus pandemic, I keep hearing radio ads pitching the benefits of getting a home equity loan. Does it sound appealing to use a home equity loan to get extra cash? Supposedly, you should use the “excess” equity in your home for:

  • Home improvements
  • College costs
  • Emergency expenses
  • Credit card other other debt consolidation
  • Investments

If you’re considering getting a home equity loan or HELOC to pay off credit cards, go ahead and skip down to the section below called “Credit Card or Other Debt Consolidation.”

How are you going to use the home equity loan proceeds?

Home equity loans and HELOCS can make sense. But they are sometimes oversold. First figure out why you want the loan. Then find out if using a home equity loan for that purpose makes sense. Below are four common examples of reasons take out home equity loans. If your situation doesn’t fit into these categories, talk to a bankruptcy attorney. Yes, I said that. I’m not saying you need to file bankruptcy. But a bankruptcy attorney will probably be most familiar with your options … especially since you are using your home’s equity.

contractor

Home Improvements

Spending your home equity loan or HELOC on home improvements can be an ok idea.  Assuming you make good decisions, you can increase the value of your house. Or you may just be increasing your home’s “sale-ability” (the attractiveness to buyers if you were to sell your house).

VERDICT: This could be a good use of money from a home equity loan or HELOC.

College Costs

The idea here is to use your home’s equity to pay for education in order to put yourself in a higher income bracket. But also consider other ways of financing you reduction. If you default on a student loan, it will hurt your credit. But if you default on a home equity loan, you could lose your house.

If you are using your home’s equity to pay for your child’s education, make sure you aren’t jeopardizing your retirement. Calculate your monthly payments  and determine whether you can pay off this debt before retirement. If it doesn’t seem feasible, you may want to have your child take out a student loan because your child will have many more income-making years to repay the debt.

VERDICT: This could also be a good use of money from your home equity loan or HELOC. Just be sure you aren’t jeopardizing your own retirement.

Emergency Expenses

car after an accident

Accidents happen. But it’s not a reason to make a further mistake with your home’s equity.

At this point I need to introduce the concept of your state’s Homestead Exemption. Arizona’s homestead exemption  protects up to $150,000 of a person’s equity in their dwelling from attachment, execution or forced sale. A person or married couple may claim only one homestead exemption and must reside in the dwelling for which the exemption is claimed. Each state has its own dollar amount and details as to what it covers.

  • If your financial emergency qualifies you for bankruptcy, and the amount of equity in your home is UNDER the Homestead Exemption amount ($150,000 in Arizona), you might consider filing bankruptcy. I’m not saying to do it. Just look into it. In this case, if paid off your emergency bills with a home equity loan, you would be losing the option of discharging your debts in bankruptcy while keeping your home’s equity. You’d be losing your home’s equity. If you’re in this situation, talk to a bankruptcy lawyer about your options. (And be sure to ask about your options and don’t get pressured into filing bankruptcy just because the lawyer wants your case.)
  • If the amount of equity in your home is OVER the Homestead Exemption amount, then you may or may not qualify for bankruptcy protection. If it is possible to file bankruptcy, refer to the previous paragraph. See if it’s possible to keep your home’s equity while discharging your debts.

VERDICT: Whether it makes sense to take out a home equity loan or HELOC really depends on how much equity you have, and whether you qualify for bankruptcy. Talk to a lawyer and don’t make your decision based on what you read on the internet.

Credit card or other debt consolidation

credit cards

Behind on credit cards? Do your research before you pay them off with your home’s equity.

The only time you might want to use a home equity loan for the sole purpose of paying off credit cards is if you have home equity that exceeds your State’s Homestead Exemption amount AND you don’t qualify for bankruptcy. If you want to fix up your house, and also pay off some debt. maybe that’s ok. In that case, you are lowering your interest rate from the high credit card rate to a lower home loan rate. And that could make sense. But I believe that the idea of paying off your credit card debt with your home’s equity is WAY oversold. Mortgage lenders make around 2.5% on a loan. So, if you take out $100,000 loan, they get $2,500. If you qualified for bankruptcy, and paid off your debt with your home’s equity instead, you make the lender happy. But you also lost equity in your home. Again, everything in this article is a generalization. If you have questions, talk to a bankruptcy attorney, or call us.

VERDICT: Taking out a home equity loan or HELOC to pay off credit card or other debts only makes sense if you don’t qualify for bankruptcy.

Long term investments

Some homeowners use home equity to invest in stocks or real estate. They are betting that their investment returns will exceed the cost of a home equity loan. Of course, this is risky. There are no guarantees the stock market will perform as well as expected. And if you use home equity to invest in real estate, you can’t be certain the investment property won’t lose its value or bring in the income needed to get a return on your investment.

If you really want a vacation home for your family, and need a downpayment, a home equity loan might be the trick.

VERDICT: If you want to invest in something riskier and hope to make more money, it’s better to look at other options than using your home’s equity.

Is Asset Protection an Alternative to getting a home equity loan?

Rather than paying off the debts with a home equity loan, can you protect your assets from collection instead? Probably not, if you already have creditors that you aren’t able to pay. Transfer assets at this time would probably be a fraudulent transfer. That could be a crime. And it may be a way that the court could unwind the transfer. Either way, it’s not a good idea. Before you go transferring assets to avoid paying creditors, talk to a bankruptcy attorney or contact us.

This article was not intended to be legal advice. And it does not create an attorney-client relationship. If you want help deciding whether a home equity loan or HELOC is right for you, contact us.

About the author

Paul Deloughery