Should You Use Home Equity to Pay Off Debt?

Home equity is the portion of your home’s value you own outright (market value minus mortgage balance). This substantial financial asset can be used for debt repayment, but requires evaluating financial circumstances and personal objectives, as it reconfigures financial obligations and impacts long-term stability.

Understanding Home Equity Products

Homeowners can access equity through financial products.

A Home Equity Loan (HEL) provides a lump sum, repaid over a fixed term with a fixed interest rate. Interest rates are lower than unsecured debt, 7-12%.

A Home Equity Line of Credit (HELOC) functions like a revolving credit line, allowing borrowing up to an approved limit during a draw period. During this period (5-10 years), interest-only payments are typical. After the draw period, a repayment phase begins (10-20 years) where principal and interest are paid on the outstanding balance at a variable rate. HELOC rates are variable (8-13%), and a balloon payment may be due.

A cash-out refinance replaces your existing mortgage with a new, larger one, receiving the difference as cash. It covers your old mortgage balance and the cash, consolidating into one payment. Lenders allow new mortgages up to 80% of appraised value, requiring 20% equity retention. Closing costs, similar to a purchase mortgage, range from 2% to 5% of the loan amount, including origination, appraisal, and title insurance.

Analyzing Your Existing Debt

Understanding current debt characteristics is important. High-interest unsecured debts (e.g., credit card balances, personal loans) are primary targets for consolidation.

Credit card annual percentage rates (APRs) are high, 20-30% or more, making them expensive. These debts are not backed by collateral.

Personal loans are another unsecured debt. Interest rates vary based on creditworthiness, 8-36%. Though lower than credit cards, they are a financial burden. Without collateral, default harms credit but does not directly risk an asset like your home.

Student and auto loans differ. Student loans can have fixed or variable rates, 4-8% for federal loans and higher for private. Auto loans are secured by the vehicle, with rates 5-10% for new vehicles and higher for used, depending on credit.

Key Considerations for Decision-Decision

Evaluating the use of home equity for debt repayment requires analyzing financial and personal factors. A primary financial consideration is comparing interest rates.

Home equity products offer lower interest rates than high-interest unsecured debts, lowering monthly payments. However, extending the repayment period, when consolidating shorter-term debts into a long-term home equity loan, can result in paying more total interest over the loan’s life despite a lower rate.

Converting unsecured debt into secured debt using home equity changes the risk profile. Unsecured debts do not directly jeopardize your home, but defaulting on a home equity loan or HELOC could lead to foreclosure. Your home is directly at risk if you cannot meet repayment obligations. This heightened risk requires careful consideration.

Home equity products involve fees and closing costs, adding to overall expense. Costs include origination, appraisal, title search, and attorney fees, potentially totaling thousands. Closing costs on a home equity loan or HELOC can range from 2% to 5% of the loan amount, reducing net cash for debt repayment. These upfront expenses can offset savings from a lower interest rate, especially for smaller loans.

Tax implications are another important factor to understand, though it is not tax advice. Under current tax law, interest on home equity debt may be tax-deductible only if used to buy, build, or substantially improve the secured home. If used for other purposes, interest is not tax-deductible.

Using home equity reduces available equity. This limits financial flexibility for future needs (e.g., renovations, emergencies). Diminished equity also means less protection against property value declines, potentially leading to an unfavorable loan-to-value. Your credit score can be affected; while managing new debt can positively influence it, the initial inquiry and new account can temporarily lower it.

Personal and behavioral considerations are important. Consolidating debt with home equity offers a fresh start, but doesn’t address underlying spending habits. Without financial discipline and a robust budget, new debt may accumulate on original credit lines, leaving you with both the home equity loan and renewed unsecured debt. This worsens your financial standing.

Stable income is important for secured debt. Disruption to employment or income can impair payments, jeopardizing your home. Assess job security and income consistency before committing to this long-term obligation. Even after consolidating debt, maintaining an emergency fund is essential. This fund provides a cushion for unexpected expenses, preventing reliance on credit cards or further home equity leveraging.

Consider how this decision aligns with financial goals. Using home equity for debt repayment might free up short-term cash flow, but could impact long-term objectives like retirement savings or future home purchases. Diverting funds to a home equity loan payment might reduce contributions to tax-advantaged retirement accounts. Aligning this strategy with your financial plan ensures it supports, rather than detracts from, long-term aspirations.

Exploring Alternative Debt Management Strategies

For individuals seeking to manage debt without leveraging home equity, several alternative strategies exist.

Unsecured debt consolidation loans provide a single loan to pay off multiple debts, with a fixed rate and set repayment period. These loans do not require collateral, so your home is not at risk, simplifying payments into one monthly bill. Rates are higher than home equity products but lower than high-interest credit cards, 8-25% depending on credit.

Debt Management Plans (DMPs) from non-profit credit counseling agencies help individuals with unsecured debt. Under a DMP, the agency negotiates with creditors to lower interest rates, waive fees, and combine payments into one monthly payment. This structured approach provides relief and a clear path to becoming debt-free within three to five years, without new loans or asset risk.

Budgeting and spending reductions are fundamental. A detailed budget allows tracking income and expenses, identifying areas for reduction, and allocating more funds toward debt repayment. Reducing discretionary spending frees up money for direct application to outstanding balances. This empowers control of financial outflows and accelerates debt payoff without external products.

The debt snowball and debt avalanche are popular debt repayment strategies. The debt snowball method involves paying off the smallest debt first, then rolling that payment to the next smallest, building momentum. The debt avalanche method prioritizes paying off the highest interest rate debt first, potentially resulting in less total interest paid over time. Both provide a structured approach to tackling multiple debts.

Negotiating with creditors is a proactive approach. Contact creditors to discuss lower interest rates, reduced monthly payments, or temporary forbearance. While not guaranteed, many creditors work with borrowers to prevent defaults. This can lead to more favorable terms, allowing debt management without new loan obligations or fees.

Citations:

“Topic No. 504 Home Mortgage Interest Deduction.” Internal Revenue Service. Accessed August 30, 2025.