E-mailDebt Consolidation Loan (Mortgage Refinance)
Debt Consolidation (also called Refinance) is a transaction in which a new mortgage amount is greater than the existing mortgage amount. Extra money from the new mortgage amount is used to pay off credit cards, car loans, student loans, retail cards and other debts. A debt consolidation loan can reduce your monthly payments by 20% – 55%. Monthly payments go down considerably because of a lower interest rate and longer repayment period.
Overwhelmed by your debt?
The Benefits of a Debt Consolidation Loan
- Debt consolidation loan offers one fixed monthly payment.
- Debt consolidation loan reduces monthly payments by 20% – 50%.
For example, if your home mortgage is $100,000 and you owe $20,000 on credit cards, debt consolidation will increase your mortgage to $120,000. That extra $20,000 will be used to pay off credit cards. As a result, your monthly expenses will go down because your mortgage interest rate is lower (due to the paying off of your credit cards).
To qualify for a debt consolidation loan you need to own a home and have some home equity. Home Equity is the value of your home, minus all money owed on it. For example, if your property is worth $200,000 with a $130,000 mortgage, then your home equity is $70,000.
You can consolidate credit cards, student loans, retail cards, car loans, credit lines and other debts.
Before Debt Consolidation Loan
| Balance | Interest Rate | |
|---|---|---|
| Home Value | $300,000 | |
| Mortgage | $140,000 | 7.8% |
Debts |
||
| Credit Cards | $20,000 | 21.0% |
| Monthly Payments | ||
| Mortgage | $1050 | |
| Credit Cards | $556 | |
| Total | $1606 | |
After Debt Consolidation Loan
| Balance | Interest Rate | |
|---|---|---|
| Home Value | $300,000 | |
| Mortgage | $160,000 | 6.5% |
Debt |
||
| Credit Cards | $0 | |
| Monthly Payments | ||
| Mortgage | $1071 | |
| Credit Cards | - | |
| Total | $1071 | |
| Monthly Savings | $535 | |
Example above uses a 25-year mortgage. Credit card payment calculations use minimum payment calculation of 2.78% with 21% compound interest rate. Table shows monthly minimum credit card payment of $556 for the first month, which goes down by approximately $4 – $8 and extends for 446 months. Calculations made using a bank-rate credit card calculator.
Bottom Line: Monthly savings of $535 on debt payments – which is 34% less than before debt consolidation loan.
Debt Consolidation: Advantages and Disadvantages
Advantages |
Disadvantages |
| Pay one fixed payment, on the same date each month. It’s convenient and easy to manage. | Since debt consolidation loan pays off all debt and offers low monthly payments, you may be tempted to use credit cards again. If this happens you can get into more debt. It’s best to close all credit card accounts and avoid applying for or using new cards. |
| All creditors are paid off in full. | Lender will not tolerate missed payments. If you miss monthly mortgage payments, the lender has the legal right to take away your home. Be forewarned: You cannot ignore these payments like some people ignore credit cards payments. |
Interest Rates and Credit Scores
Mortgage interest rates are lower than on credit cards, car loans and student loans. As a result monthly payments go down. Also, if you pay on time, your credit score will go up.
Debt Consolidation Loan Costs
Debt consolidation closing costs are similar to first mortgage costs. In fact, you will go through almost the exact same procedure as with your first mortgage. Closing costs add up to 2% – 5% of the entire loan. Use the table below only as a rough estimate.
Learn more about mortgage closing costs.
Fee |
Approximate Cost |
|---|---|
| Appraisal Fee
Appraisal estimates dollar value of your property by comparing it to similar properties in the area. Find independent, legal appraisers at Canadian National Association of Appraisers |
$300 – $500 |
| Survey Fee
Survey is a comprehensive inspection of the property. It examines foundation, building structure, pipes, electricity and gas. |
$350 – $400 |
| Property Insurance (Home Owners Insurance)
This insurance protects against fires, floods and other disasters. |
$300 to $850 |
| Attorney Fees
Lenders hire lawyers to ensure transactions are legal and in compliance with lender requirements. As a borrower you must pay for lawyer expenses. |
$500 – $800 |
| Title Search
Your home may have had many owners. Banks, government, construction companies and other home owners. Title search ensures that you are the only lawful owner of the property. It also checks for mistakes to prevent future problems. |
$50 – $200 |
| Title Insurance
Title insurance protects you to the full cost of the property |
$300 – $ 500 |
| Loan Origination Fee
Origination fee is charged for lender’s work in evaluation and preparation of your mortgage loan. |
About 1% of the loan |
| Prepayment Penalty
All lenders charge a prepayment penalty for ending a mortgage contract earlier than originally agreed upon (mortgage refinance). |
3 months of interest payments. |
Avoiding Debt Consolidation Closing Costs
Adding Costs to Your Loan
If your debt consolidation loan is $120,000 and closing costs are $3,000, the lender can add it on top and lend you $123,000 instead. Lenders charge interest on this added amount.
Adding Costs to The Interest Rate
Another way to avoid costs is to select a lender who will offer a slightly higher rate, but will not charge closing costs. With this method there are no additions to your mortgage balance. Instead, the lender covers closing costs by charging you a higher interest rate.
With both above methods, you end up paying closing costs over time. Learn more about mortgage closing costs. Apply with MortgagesCanada.ca to avoid closing costs.
Qualifying for Debt Consolidation Loan
You must have at least 10% home equity.
You must have at least a 650 credit score.
Add together your total monthly mortgage payments, credit card payments and other loan payments. Then divide that number by your monthly income. If you reach 0.50, then debt consolidation loan is for you. If the number is less than 0.50 we can still help you save money.
Be prepared to provide proof-of-employment letter from your employer, proof of income, property details, SIN, T1 Tax Form, annual mortgage statements and more. Check all documents needed for a mortgage.
- Make sure to list all your credit accounts with the lender.
- Lender may close all your credit cards, store cards and other credit accounts to ensure you don’t get in debt again.
- Shop several mortgage lenders and compare interest rates.
- Before signing any contract, review it carefully. Verify interest rate, conditions, loan period, fees and other factors. If the lender tries to rush you for any reason, be wary.
Credit Counseling vs Debt Consolidation Loan
Credit counseling companies contact your creditors and negotiate lower interest rates. They also look for debt consolidation loans to put all your debt into one monthly payment. Credit counseling companies receive a percentage of your monthly savings. If, for example, you save 30%, they will take 5% (or more) every month for an agreed period as a fee for their services.
Credit counseling helps if you have no home equity. Home equity is value of your home, minus all money owed on it. For example, if your property is worth $200,000 with a $130,000 mortgage, then your home equity is $70,000. It’s difficult to get a debt consolidation loan without home equity because mortgage lenders require your house as a form of security for the loan.
There’s no point in using credit counseling services if you have home equity. Credit counseling companies will simply arrange a debt consolidation loan and then charge you a monthly fee. You can get a debt consolidation loan on your own without paying a monthly fee.
Will Debt Consolidation Get Me Out of Debt?
Yes, it will help – but only if you don’t get into more debt after getting your initial loan. Sounds logical, but it’s tempting, especially if you have spending problems. For example, if a debt consolidation loan lowers your monthly payments from $1,780 to $1,345, suddenly that’s an extra $435 per month of income. Some people act foolishly and get more credit cards, going even deeper in debt.
If you get a debt consolidation loan, do yourself a favour – stay away from ALL credit cards. Use that extra money to eat healthier, more enjoyable meals, save for vacations, buy new clothes or whatever it is you like to do. But please, don’t get into debt again – because if you do, you can end up worse off, sometimes owing twice as much money as you did before.
