What is debt consolidation – and how can it help you buy a home?

Are your debts getting in the way of buying a new home?

If so, debt consolidation could be a way to get one step closer to your dream property.

Let’s start with the obvious question:

What is debt consolidation?

I expect you’re all too familiar with the concept of ‘debt’ (or you probably wouldn’t be reading this article).

But what about debt consolidation?

Well, let’s say you have several debts, including some with high interest rates that you’re having a hard time keeping up with. Credit cards, store cards, car finance – they can all seem very convenient when you first get them, but if you let the balance build up, the interest can quickly spiral out of control.

Debt consolidation is the process of taking out a new loan that combines all of your existing debts into one bundle.

That means you’ll be making just one weekly or monthly payment instead of several – and that, hopefully, you’ll have a lower interest rate over all.

Essentially, debt consolidation is a way to pay off your debts faster – with the extra benefit of removing all that stress you feel as you try to juggle so many repayments.

How can this help you get into a property?

The obvious answer is that the sooner you pay off your debts, the sooner you can save a deposit and qualify for a mortgage.

But there’s another way debt consolidation may help you, provided you can muster up a deposit. (That might mean getting help from family or friends, or applying for a HomeStart Grant and/or first-home withdrawal via KiwiSaver, if you’re eligible.)

If you have a big enough deposit, your lender may be willing to add your existing debts to the mortgage, so that you’ll be paying them off over the full term of your home loan. You’d then be making just one regular payment, to the mortgage provider. This means you’ll be better able to service a home loan, because your income will not be diverted to pay off other debts.

Before you apply you’ll need to discuss this with the lender or your broker, to see how much of your existing debt, if any, you are able to consolidate into your home loan.

If you choose to try debt consolidation you’ll need to communicate with all your existing lenders to make sure you can pay off those debts without penalties, and ascertain the final balance that you’ll need to pay off. Once the papers are signed, your new lender will send payments to discharge your debts.

Debt consolidation for existing home owners

If you already own a property you may be able to consolidate your debts by borrowing against any equity you’ve built up in your home. The amount of your debts would be added to your existing mortgage, increasing the balance and the amount you repay each month.

What are the benefits of debt consolidation?

  • A consolidated loan will generally have a lower interest rate than convenience facilities like credit cards and car finance. If you consolidate your debt into your mortgage you can expect an even lower rate, since your mortgage is a secured loan.
  • Your repayments will be spread over a longer period of time, so you can expect your monthly or weekly payments to be less.
  • You’ll only have a single regular repayment.

What about the downsides?

  • The lower interest rate is deceptive. Paying off your debt over a longer period of time means you’ll pay more interest in total.
  • You may have to pay extra fees to discharge your loans or set up the consolidated facility.
  • There may be hidden fees too, so be sure to check carefully before you sign up.
  • Consolidating debt into your home loan can be risky – you’ll lose some of the equity you’ve built up, and if the value of your home falls you could end up with a loan that’s greater than the value of your property.
  • Once you’ve consolidated your debts and relieved the pressure it can be all too tempting to start using your credit card again, and end up in the same situation. TIP: Cancel all credit cards before consolidating debt and only use you own money for expenses (cash or debit card).

Conclusion

Debt consolidation is a valuable tool that could help you get into a new home sooner – but there are pitfalls. Be sure to talk to your lender or mortgage broker or contact our friendly mortgage brokers if you want to consolidate your existing debts into a home loan – and, as always, get professional financial advice on the best course of action for you.

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