“I also have 23 years on my mortgage and $400,000 in equity.” (Photo subject is a model.) – Getty Images/iStockphoto
I’m in my upper 40s and have $300,000 in my 401(k). I also have 23 years on my mortgage — $254,000 with a 3.25% interest rate — and $400,000 in equity.
Things are getting tougher each month with expenses, and I find myself in $145,000 debt between low-rate credit cards (15%) and a 8% HELOC.
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If you were in my shoes, would you rather refinance at a 6.7% mortgage rate and pay off the credit-card debt and home-equity loan, get a HELOC or downsize your home?
Forties
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Downsizing might be the lesser of three evils. – MarketWatch illustration
You have a few poisoned chalices to choose from.
Given that you are paying 3.5% on a $254,000 mortgage, I assume your monthly payment is around $1,100 a month. Only two options you outline allow you to keep your current home. An ideal third option would be getting rid of your credit-card debt at all costs by slashing expenses.
However, if your goal is to get rid of this $145,000 debt entirely and get back into the black, downsizing might be the lesser of three evils; the other two being refinancing your mortgage or taking out an 8% HELOC to cover that credit-card debt.
Downsizing would be humbling, but that’s not always a bad thing, especially if you preserve your 401(k). It also allows you to take a long, hard look at your finances and figure out why you got into $145,000 debt, not to punish yourself, but in order to prevent it from happening again.
By downsizing, you would be taking on a higher mortgage rate — around 6.7% — but hopefully for a much smaller amount. You would not increase your monthly expenses, allowing yourself to save and invest money and be free of your unsecured debt.
Selling your house and releasing that $400,000 in equity, paying off the $145,000 in combined debt, and buying a smaller house for $500,000 at a 30-year rate of 6.7% interest with the remainder of your cash, would leave you with a $1,500 monthly payment.
The downsides are obvious: You have the potential emotional gut punch of trading down, you don’t have such a valuable asset and you pay more interest over the lifetime of the loan. The upside: Your life becomes more manageable on a month-to-month basis.
And refinancing? Brace yourself for a numbers salad. These are blunt back-of-the-napkin calculations, excluding home insurance and other costs, to show you the difference in your monthly payments under each scenario, and give you an idea of how much interest you would pay with each one.
a) Refinancing your existing mortgage to add that $145,000 in debt — plus $5,000 in attorney fees, etc. — would give you a $2,600 monthly payment at a 30-year mortgage rate of 6.7%. That does not seem like a viable solution for you.
b) Converting your debts to a 20-year HELOC at 8%, would give you a $1,300 monthly payment in addition to your existing mortgage payment. So your monthly payment would, in total, jump to $2,400. Is that lower than what you are paying now? Again, it does not seem viable.
Frankly, none of these rough refinancing estimates sound like attractive solutions for you, but they give you an idea of your monthly payments, your interest payments and keeping your current home versus giving it up for a smaller house.
Some context on the kind of interest you’d pay with your three options:
1) With the downsizing option, you pay roughly $321,600 in interest over 30 years but could aim to pay off the mortgage early.
2) By refinancing at 6.7%, you pay $526,560 in interest over 30 years.
3) With a $145,000 home-equity line of credit, or HELOC, you would pay $146,360 on your loan in interest over 20 years. Adding the roughly $144,000 interest you’re paying on your existing 30-year mortgage at 3.5%, you’d be paying total interest of $290,360.
If you refinanced your mortgage debt or took out a HELOC, would either of those options reduce your current monthly debt payments enough to make it worth your while? If not, are you willing to downsize to a smaller home to pay the debt and have lower monthly costs?
If you are unsure, cut your expenses and live like a monk to pay your debt.
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