Karen Blumenthal at The Wall Street Journal just released an article that represents a concise primer for those considering refinancing their home right now. For a large segment of homeowners, it is a opportunistic moment with rates below 5%.
But does this mean that someone with debt, and specifically non-mortgage debt, should refinance? The answer depends on a variety of factors, but in general, no. Blumenthal mentions two crucial bits of information that are considered when attempting to get a refinancing loan approved: your credit score, and the home’s current value. It is difficult to change a home’s current value. On the credit score end, not only are those who revolve non-mortgage debt correlated with low credit scores, but a low credit score might not be easy to raise if you’re strapped for cash from month to month.
In essence, refinancing can be a bad idea because the risk of getting even deeper into debt is high. This heightened risk is due to a number of factors, most prominently income insecurity and the time needed to clear after completing the refinance: the transaction cost of refinancing means many months of payments need to made to have made the refinancing decision worth it in the first place. This is a general risk that anyone holding a mortgage runs: can you swing the mortgage payments if something were to happen to your income stream (typically your job)? Admitedly, some of the risk of income insecurity for the purposes of refinancing can be mitigated if one holds substantial and accessible savings. However, it’s not likely that someone who revolves substantial non-mortgage debt from month to month has such funds, or at least enough of them to justify the mortgage move.
A few months ago we produced an article on the ways in which a low credit score actually impacts your ability to get out of debt. Bottom line: it makes it tougher, and your ability to even land a job can be complicated by non-mortgage debt. This can translate to high income insecurity.
What about the strategy of swiping out high interest credit card, auto, and other debt with lower interest mortgage debt? This can make sense, but the fundamental issue remains risk: how likely are you to lose your home due to inability to make mortgage payments if you take on additional mortgage debt and increase the time horizon to pay off the home? An accurate assessment of this question is critical.
Raj Patel writes for DebtGoal.com, a do-it-yourself system for getting out of debt and lowering your interest costs. DebtGoal.com incorporates all of the techniques discussed in this post and can help users understand and get visibility to and manage their debt finances.
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