With credit card debt rising, homeowners can borrow to ease payment pain

Mortgage rates are falling as household debt is climbing.

As of Jan. 4, the Freddie Mac 30-year fixed sat at 6.62, 1 basis point higher than last week but 117 basis points less than 7.79%, its October high-water mark.

Aggregate household debt in the third quarter stood at $17.29 billion, according to the New York Fed. Mortgages, credit cards, auto loans, student loans and the like are “only” about half of the national debt, which hit a record $34 trillion on Jan. 3.

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U.S. mortgage balances stand at $12.14 trillion and home equity lines $386 billion. Credit card balances stand at $1.08 trillion, according to Fed data.

For homeowners in deep debt, does this mortgage downswing mean it’s time to refinance or add a second mortgage or home equity line-of-credit?

Today, very well-qualified borrowers can capture a 30-year, cash-out fixed rate at 5.875% with 2 points cost. Fannie Mae and Freddie Mac charge more for cash-out refinancing in comparison to a no cash-out refinance or a purchase mortgage.

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Less than 9% of active California mortgage holders have interest rates at or greater than 6%. Nationally, just 11% of mortgage holders have rates at 6% or more, all according to the data firm ICE.

If your credit card debt and the like is manageable, and you can continually knock down the balances each month, then you should consider staying the course. Protect your piggyback (home equity).

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Annualized, approximately 8% of credit card balances and 7.4% of auto loan balances transitioned into delinquency, according to the New York Fed data. Do whatever you can to keep the payments on time. Late charges and delinquencies will crush good FICO credit scores.

If cash flow is a challenge or your savings are getting into the red zone (because your monthly household debt output is greater than your monthly net income), then it’s time to do some equity-tapping math.

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For example, let’s say you took out a $500,000 mortgage during the pandemic, with the rate sitting very nicely at 3.5%. Your home is worth $1 million. And you have a 750 middle FICO score. But you also have run up $25,000 of credit card debt at a 20% interest rate.

The simple math tells us it’s obvious you don’t want to be trading a 3.5% fixed rate for something in the high-5s or 6s to get rid of a comparably small balance, but high rate.

In this case, you should consider putting a HELOC or a fixed rate second mortgage behind your first mortgage. You may be able to find a no-closing-cost HELOC with starting rates lower than prime (prime rate is 8.5% today) or prime plus 1% or 2%. Even if you paid 10% on a HELOC, you are reducing your borrowing cost by 10%.

Assuming interest-only payments, $25,000 of credit card debt at a 20% interest rate costs you $5,000 in annual interest. Chopping the rate down to 10% saves you $2,500 in interest charges.

I should add that most HELOC’s have terms of 25-30 years. For the first 10 years, borrowers have the option of making interest-only payments. In year 11, the principal and interest amortization is required for the remaining term.

That said, be disciplined and continue making the same payments as you were before the HELOC. That way, you’ll accelerate the credit card principal balance reduction with cheaper borrowing costs. And you don’t want to get caught up pushing credit card balances out over say 30-year HELOC term.

If you transfer your credit card debt to a HELOC, the interest is not tax-deductible.

Let’s say you purchased a home in 2023. You are sitting on a $650,000, 7% mortgage note. Your middle FICO score is 750. Your home is worth $1.3 million. The monthly mortgage payment is $4,324. On top of this, you have $100,000 in auto loans and credit card debt, which has a blended borrowing cost of 12%. Let’s say you are paying $1,000 per month on the $100,000 of other debt. Your combined payments are $5,324.

You could get a no-cost, 30-year fixed, cash-out mortgage at 6.875%. Assuming your new loan balance is $750,000, your new principal and interest payment would be $4,927. This reduces your monthly payment by $397. Even though your mortgage payment only went down by 0.125%, your other debt went down by 5.125%. And you paid nothing (but your time) to get the mortgage. Again, pay that $397 monthly payment savings toward the principal reduction.

Shop around for your best deal. If you are not a math wiz, then sanity check the quotes with your tax adviser or a very smart friend.

Debt consolidation is not the only reason borrowers may be calling about cashing out. Some are eyeing the purchase of other properties, be it a residence or a rental. The cash-out can help with the down payment.

And others sitting on low primary home loan rates can pull cash-out of their rentals, either as a first mortgage or a fixed second. Beware: Rates are substantially higher when tapping cash from rentals.

Interest on borrowed funds used to buy property or do home improvements may very well be tax-deductible. Generally, new mortgage debt is deductible up to $750,000 on a primary residence. Always consult with your tax adviser before finalizing any decisions.

Freddie Mac rate news

The 30-year fixed rate averaged 6.62%, 1 basis point higher than last week. The 15-year fixed rate averaged 5.89%, 4 basis points lower than last week.

The Mortgage Bankers Association reported a 9.4% mortgage application decrease compared to two weeks ago.

Bottom line: Assuming a borrower gets the average 30-year fixed rate on a conforming $766,550 loan, last year’s payment was $71 less than this week’s payment of $4,06.

What I see: Locally, well-qualified borrowers can get the following fixed-rate mortgages with one point: A 30-year FHA at 5.5%, a 15-year conventional at 5.375%, a 30-year conventional at 5.99%, a 15-year conventional high balance at 6.125% ($766,551 to $1,149,825 in LA and OC and $766,551 to $1,006,250 in San Diego), a 30-year high balance conventional at 6.5% and a jumbo 30-year fixed at 6.5%.

Note: The 30-year FHA conforming loan is limited to loans of $644,000 in the Inland Empire and $766,550 in LA, San Diego, and Orange counties.

Eye-catcher loan program of the week: A 30-year, jumbo fixed rate at 6.25% with two points.

Jeff Lazerson is a mortgage broker. He can be reached at 949-334-2424 or jlazerson@mortgagegrader.com.