Should you use home equity to pay off debt?

A couple use a laptop and smartphone to review their credit card accounts in order to determine if they should use home equity to pay off debt.Image: A couple use a laptop and smartphone to review their credit card accounts in order to determine if they should use home equity to pay off debt.

In a Nutshell

Using your home equity to pay off debt can help you save money and possibly become debt-free faster. It's not an option for everyone though, and the math doesn't always work out. Plus, you'll need to be comfortable with potentially losing your home if you can’t make the new payments on your mortgage.
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If you have high-interest debt, you may be considering using home equity to pay it off.

If you run the numbers, you may find out it’s a solid strategy for your situation. In the best-case scenario, using your home equity may allow you to pay off that debt at a cheaper interest rate than what you’re paying now.

A lower rate means more of your monthly payments go toward paying down the principal balance and less toward paying interest, which means you could get out of debt sooner. But in the worst-case scenario, you could lose your home if you’re unable to repay the debt.

We’ll review the different ways you may be able to tap home equity as well as alternatives you may consider.

Can I use the equity in my home to pay off debt?

In short, yes — if you meet a lender’s requirements. You may be able to use your home equity to finance many financial goals, including paying for home improvements, consolidating high-interest credit card debt or paying off student loans.

Just like other types of financing, you’ll have the best chance of approval at the lowest rates if you have solid credit, a strong and consistent income and a low debt-to-income ratio. You’ll also need to have built home equity that you’re able to tap.

How much home equity do you have?

First, you’ll need to consider the amount of equity you have in your home. Just because you own a home doesn’t mean you’ll be able to use home equity financing.

Many lenders allow you to borrow up to 80% of your home’s equity. You can calculate the potential maximum amount you’d be able to borrow with home equity financing using this formula:

potential maximum financing amount = your home’s market value * 0.80 – your mortgage balance

For example, if you own a home worth $250,000 and you still owe $200,000 on your mortgage, you might not be able to use home equity financing since you’re right at the 80% mark. But if you only owed $100,000 on your mortgage, you may be able to borrow up to $100,000.

If you’ve recently bought your home or used a zero-down-payment mortgage, it can be quite some time before you’re even eligible to apply for home equity financing. It can take a long time to make progress on paying down your mortgage, especially in the first few years since a greater percentage of your payments will go toward interest than principal.

On the other hand, if home prices are rising rapidly (and your home equity along with it), you may be eligible sooner than you think. According to a 2022 TransUnion report, home equity levels are up 22% between the first quarters of 2021 and 2022, and 52% compared to five years before.

What are my options for using home equity to pay off debt?

There are three main types of home equity financing that you may be able to use to pay off your debt. Each of these options works a little differently, and that can have a big impact on whether you save money.

Cash-out refinance

A cash-out refinance allows you to replace your current mortgage with a new, larger one. The extra amount is paid out to you as cash that you’ll repay over the course of your new mortgage (often 15 or 30 years).

How much cash you may be able to take out depends on the amount of home equity you’ve built up.

For these reasons, a cash-out refinance can be a good option if you can check these boxes:

  • You can get a lower rate on a cash-out refinance loan than both your current mortgage and your other debt.
  • You want a lump sum
  • You either won’t be extending your mortgage term by very much or you’re financially able to handle paying it off over a longer period of time. Keep in mind that the longer your loan term, the more in interest you usually pay.

Home equity loan

When mortgage rates are rising, another good option for many people is a home equity loan. This allows you to keep an already-low-rate mortgage while still using home equity to pay off debt.

A home equity loan is considered a second mortgage because if you default on your debt, the primary mortgage takes precedence for repayment. Term lengths for home equity loans typically range from five to 30 years.

A home equity loan may be a good option if:

  • You want a lump sum installment loan with a fixed interest rate
  • You want to keep your current mortgage rate
  • You have access to enough equity to pay off your current debt and can receive a lower rate than the combined average rate of all your debt

Home equity line of credit (HELOC)

A home equity line of credit, or HELOC, can be a good choice if you need to pay off some debt now and also want the option to borrow money in the future, such as to make home improvements.

HELOCs are usually divided into two phases: a draw period when you can borrow money and make payments, and a repayment phase when the draw period ends and you have to repay what you’ve tapped on the credit line. Keep in mind that HELOCs usually have variable interest rates.

A HELOC may be a good option if:

  • You want access to a revolving credit line
  • You don’t want to give up your current mortgage rate
  • You don’t mind a variable mortgage rate

Is it a good idea to take equity out of your house?

Under the right circumstances, using home equity to pay off debt really can help you get out of debt faster and save money. The only way to know for sure is to run the numbers and see how much each option may cost you.

Here’s an example of how to do this if you’re working to pay off $20,000 worth of credit card debt. (Be sure to add any fees to your cost calculations as well.)

OptionInterest ratePayoff periodMonthly paymentTotal interest paid
Credit card18%5 years$508$10,472
Cash-out refinance (only considering the portion refinanced from credit card debt)7%30 years$133$27,901
Home equity loan8%5 years$406$4,332
HELOC (assumes variable rate doesn’t change)8%3 years and 10 months$506$3,277

Run your numbers with Credit Karma’s debt repayment calculator.

One important consideration is how secure you are in making these new payments. If you think there’s any chance you could default or you don’t feel comfortable taking that risk, using home equity to pay off debt may not be a good choice for you.

Next steps: What are my alternatives?

Home equity financing isn’t your only option if you want to pay off your debt sooner and save money. Here are a few other options to consolidate your debt at a lower rate that don’t use home equity at all:

  • Personal loans: You can use an unsecured personal loan to pay off debt. They typically have fixed rates and fixed installments.
  • Nonprofit credit counseling: A credit counselor can work with you to create a tailored debt plan and give you financial knowledge.
  • Balance transfer cards: These credit cards can have attractive introductory rates but often come with a balance transfer fee.
  • Debt payoff plan: If you want to create your own payoff plan, two popular methods are a debt avalanche and a debt snowball plan.

About the author: Lindsay VanSomeren is a freelance writer living in Kirkland, Washington. She has been a professional dogsled racer, a wildlife researcher, and a participant in the National Spelling Bee. She writes for websites such a… Read more.