Beware when rolling debt into mortgage-especially if Divorcing and you want to clean the slate!
By Tara-Nicholle Nelson, Wednesday, May 4, 2011. With EDITS BY MARK SLADE
Q: I think I already know the answer to this, but it doesn’t hurt to ask. What do you think about having your debt consolidated into a real estate mortgage loan? I would like to buy property, but my debt is what’s holding me back. Most of it is credit card debt. This is how my thinking is: If consolidated into a home loan, I can pay the one lump sum. Can you tell me how true this is or isn’t? –Tara B.
A: Please do a mental marathon in the opposite direction of this line of thinking. There are really two issues with the thought process around consolidating credit card debt into the mortgage on your home, but I have one preliminary concern.
You’ve said that your debt is what is holding you back from buying a home. I disagree wholeheartedly. Your credit card debt may very well be holding you back from buying a home right now. And I will make the case that the answer to this is not to pretty the debt up, roll it into a different kind of debt, or massage it until it sounds like something other than what it is.
The Reality is that Mortgage loan officers and their underwriters will still count your debts, no matter what type, in their calculations and like a water baloon, simply squeezing at one end won’t change the total water on the inside.
The BEST answer to your issue is to (a) face the debt head-on, (b) figure out how you got into it and stop those behavior patterns of spending more than you have (by the way, that’s the only way to get into debt in the first place), and (c ) pay it off.
Frankly, any one that thinks that using your equity to pay off debts is a smart move hasn’t been paying attention to all that has impacted the challenging housing industry since 2007! Unless you are out of a job and need and are able to extract some of your home equity in order to survice, all you are doing is increasing your total indebtedness and, if you are forced to sell your home, you are increasing your risk of being “upside-down–” as we well it, or more simply put: owing more to the banks than your home will sell for after all costs are considered.
Until you address the REAL issues that got you into debt in the first place, you will persist in those spending patterns, even if and when you buy a home. Taking the steps to reverse those patterns and investing the time and discipline it will take to pay your debt off will create the sound, sustainable spending and saving habits that are necessary to own a home — and keep it — over the long term.
And that may mean you have to wait awhile to buy, but waiting to buy things until you can truly afford them is actually one of the very habits you’ll need to have to be a successful homeowner! In fact, I often challenge my clients to make sure they are truly in a position to go “full throttle” as i put it–spending the maximum amount their loan officer tells them they can afford. Unless there is a guaranteed increase in income coming down the pike, I highly recommend you find a way to live within your means and, if purchasing a home, finding one that won’t have you “red-.lining” it out of the gate.
There are two other critical issues with the idea of rolling credit card debt into your mortgage when you buy a home. The first is simple — most lenders just won’t do it!
If your debt is too burdensome to qualify for a home loan, suggesting that the lender pay your debt off and extend you more money just doesn’t fly on today’s market like it once did. This is largely because most homes bought these days are just barely squeaking by to be appraised as having the same value as the purchase price.
Virtually no lender is willing to extend cash and dump it into paying off your credit cards to be secured only by a home that may depreciate, and is unlikely worth a ton more than what you’ve agreed to pay for it.
The second of these critical issues still bears discussion, despite the fact that the issue is almost certainly moot, because even if you do pay off your credit card debt, the time may come when you can buy a home, and do own a home, and do have home equity, and run more credit card debt up, and you begin to wonder whether you should take out a home equity loan or line of credit (HELOC) to consolidate your credit card debt and simplify your life.
Don’t do it. Your credit cards are unsecured debt, meaning that if you have to default on them, the creditor’s only recourse is to sue you — the creditor can’t take your house or your car. Your mortgage, including home equity loans and lines of credit, are secured with your home, meaning that if you default on them for whatever reason, your lender can and will take your home.
If you increase the debt load secured by your home in order to pay off unsecured debt, you are effectively securing your credit card debt with your home. If you lose your job or become disabled and can’t pay the HELOC off, you could very well lose your home over whatever purchases you made using those credit cards.
Not worth it, right? So please take my advice: Lose this line of thinking and take steps to lose your credit card debt, the right way, before you become a homeowner.
Similarly, using a HELOC to pay off marital debts to “make your divestiture from one another easier” may in fact have the opposite affect, as per the above! I am aware of a couple that thought they were being smart about using just such a strategy and since doing so, ended up selling their home as a short sale. While first and second mortgage write-offs are common place and supported by the current government relief efforts, HELOC’s are not treated similarly. So, the couple in question split up, and the Bank is still pursuing “them.” As another word to the wise, putting money into the same bank that you have your HELOC with, even after divorce, is yet another mistake as if you are in arrears on a HELOC, those intial banking forms you signed will allow your bank to go into your account and take out any money to apply to a debt owed to the same bank and frankly they won’t look to take the amount out evenly in the beginning, they will take as much as they can extract from said bank accounts up to the amount you or your spouse is obligated by law to repay.
Tara-Nicholle Nelson is author of “The Savvy Woman’s Homebuying Handbook” and “Trillion Dollar Women: Use Your Power to Make Buying and Remodeling Decisions.” Tara is also the Consumer Ambassador and Educator for real estate listings search site Trulia.com. Ask her a real estate question online or visit her website, www.rethinkrealestate.com.