Debt Consolidation: Second
Mortgage or Unsecured Loan |
By Heleigh Bostwick |
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Debt Consolidation via 2nd Mortgage or Unsecured Loan?
If you
are like most Americans you've probably racked up considerable debt
trying to keep up with the Smith and Jones families down the street.
According to www.cardweb.com, the leading online publisher of
information pertaining to credit and other payment cards, you are
not alone. In 2004, individuals who earned between $75,000 and
$100,000 per year, and had at least one credit card, carried an
average revolving balance of nearly $8,000. This doesn't even
include other personal debts such as car loans, which can total in
the tens of thousands.
If credit card debt is keeping you up
at night, you're probably wondering what you can or should do about
it. File for bankruptcy Refinance If you refinance, is a
fixed mortgage rate or an adjustable rate mortgage better What about
a home equity loan? The simplest answer of course is to get a debt
consolidation loan.
What is a Debt Consolidation Loan?
Simply put, a debt consolidation loan lumps all of your debts
together and pays them off using a single new loan. The next
question of course is how to go about getting a debt consolidation
loan. Visit a loan shark Take out a second mortgage on your
home Apply for an unsecured loan at the bank and hope for the
best For the majority of folks a visit to the local loan shark
is not a viable option; but taking out a 2nd mortgage or obtaining
an unsecured loan from the bank are both excellent choices.
Whether you use a second mortgage or an unsecured loan to pay off
credit card debt, often depends on several important factors
including whether you actually own a home, what your credit rating
is, and what the total dollar amount of the credit card debt is that
you owe to various financial institutions. According to one expert
we spoke to who used to work in the unsecured loan business but now
runs his own mortgage broker business, The most important
consideration is the borrowers credit history.
2nd Mortgage
A second mortgage is a loan or mortgage that is taken out after a
first mortgage. It is similar to a first mortgage in that it uses
the equity built up in a home as collateral. Similar to a first
mortgage, a second mortgage consists of a fixed dollar amount that
is paid out in one lump sum and repaid over a period of time
typically 15 or 30 years. A 2nd mortgage may be either a fixed rate
or an adjustable rate mortgage.
Sometimes called a junior
mortgage or junior lien, a 2nd mortgage is subordinate to a 1st or
primary mortgage. What this means is that in the case of default,
the lender for the first mortgage gets paid before the lender who
issued the second mortgage does. As such, a 2nd mortgage is
considered to be a higher risk and lenders often charge a higher
interest rate; however, this rate is generally lower than an
unsecured loan or the interest charged on most credit cards.
Second mortgages are tax deductible, a major advantage for most
people. The payback period is over a fairly long period of time so
monthly payments are lower and the total loan amount is generally
larger. There are some cons to consider when thinking about taking
out a second mortgage, explains Brett Bostwick, owner of Snowbird
Mortgage Company. ?It takes longer to get approved, there is more
paperwork involved, and because it is a mortgage loan, there are
closing costs such as appraisals and title searches, he says.
Unsecured Loan
An unsecured loan is a lump sum payout that is
repaid at a fixed rate of interest in equal payments over a short
period of time, typically 5 years or less. Unlike a second mortgage,
collateral is not necessary to secure the loan. Loan amounts are
relatively small, usually less than $15,000.
Interest rates
on unsecured loans, which are sometimes called signature or personal
loans, are determined by whether you are considered a good credit
risk. In other words, the higher the credit score, the lower the
interest rate will be and vice versa. A bad credit score will earn
you a higher interest rate, sometimes the same or higher than the
credit card interest you are paying. This is compounded by the fact
that an unsecured loan is considered a higher risk (no collateral),
and lenders may charge interest rates that are often quite high,
generally higher than the interest rate on a second mortgage would
be, but usually less than that 18%-plus interest credit card debt
you are trying to pay off.
Unsecured loans have a couple of
advantages over second mortgages in that approval process is much
quicker and there are no additional costs involved. Because the loan
period is shorter and the interest rates are higher, monthly
payments are also higher. Nor is the interest is not tax deductible.
However, if you default on the loan, it may damage your credit but
you won't lose your home.
The Bottom Line
It really
depends on your situation. What is best for a co-worker or neighbor
might not be the best choice for you. Most experts advise getting a
2nd mortgage if you are paying off a larger amount of bills and you
don't mind paying closing costs or the longer approval process
required for a second mortgage. If you need money quickly and only
have a small amount of debt to consolidate, it's probably better to
go for the unsecured loan.
Of course unless you exercise
restraint, change your spending habits, and stop using those credit
cards, you will fall right back into credit card debt. With a little
hard work and perseverance however, you will remain credit card debt
free and able to keep more of those hard-earned dollars in your
pocket instead of handing them over to the bank. |
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