Using a mortgage for debt consolidating has its risks

Aug 26, 2015 |

Low mortgage rates are making it easier for existing home and property owners to maintain home loan repayments. If you are also carrying other unsecured debts on your credit cards, personal loans, etc, it may be very tempting to consider consolidating these into the mortgage. After all home loan rates are significantly lower than the cost of any other form of finance.

This can indeed be a very strong debt consolidation strategy. However it also carries some risks that may not be immediately apparent. These should be considered before contacting your current lender in order to increase you home loan to accommodate for other debts.

Has your position changed since loan was taken?

Consolidating other debts onto an existing mortgage is essentially a new loan application. You do need to be mindful of what your current financial position is like in comparison to what it was when you have taken out the original loan. If your income is now lower, one of you is out of work or looking after the children at home, perhaps on maternity leave, have more dependents, more other debts, or any other change to your financial circumstances there is a risk that you can not afford the larger loan you are seeking and it will not be approved.

What is more dangerous is that perhaps your current lender will not assess you to be unable to afford your debts in view of current income and may ask you to refinance or pay down your mortgage. Consider what position you will be in if you can not raise a new mortgage anywhere else because of a lower income?

To prevent this risk, do not approach your current lender seeking a mortgage increase unless your income is now higher than it was when you first applied and your other debts are lower. It is safer to speak to a broker first who can pre-qualify you without lodging an application and tell you if you do n fact qualify for a larger mortgage.

Should you find out that you do not, your existing mortgage is not at risk. You can then look into alternative debt reduction strategies and leave your mortgage where it is.

Will mortgage insurance apply?

If you need to borrow beyond 80% of the value of your home in order to consolidate other debts, and your original mortgage was not over 80%, mortgage insurance may apply. This is a once off fee that the lender may apply to insure the risk of a higher LVR loan. This fee is paid by the borrower and needs to be included into the cost of consolidation calculation in trying to establish if consolidation into the mortgage is worthwhile.

Do you have the discipline to make extra repayments?

Putting other debts into your mortgage actually spreads the debt repayment over a much longer period of time. Therefore if you do not have the discipline to make extra repayments to repay the consolidated debt as soon as possible this debt may actually cost you more despite lower interest rates. While home loan rates are low you may actually sign yourself up to make repayments over a much longer period of time. If you do make an effort to repay debt added on to the mortgage ASAP, then such a consolidation may still be worthwhile.

Posted in: debt consolidation, finance & realestate

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