Most Canadians are carrying credit card debt, but if yours is causing a strain on your financial and mental well-being, it may be time to consider consolidating it into one loan so you can pay off your balances in full and repay your debt at a lower interest rate with lower monthly payments. Learn more about how you can consolidate your debt into your mortgage by unlocking the value of your home’s equity.

What Is Debt Consolidation?

The process of debt consolidation involves combining two loans into one. A debt consolidation mortgage is a long-term loan that provides you with the funds to pay off other debt. You’re then left with one loan to pay back instead of multiple cards and loans with varying interest rates. Consolidation is particularly useful for high-interest loans like credit cards because the refinance will come with a lower interest rate. Keep in mind that there is no one-size-fits-all solution when it comes to deciding how to consolidate your debt.

Why Should I Consolidate Debt Into My Mortgage?

Most homeowners have equity that you can take advantage of to help consolidate your debt. Equity is the difference between the value of the home and what is owed on the mortgage. Consolidating debt into a mortgage in Canada means you’re breaking your current mortgage agreement and rolling high-interest debt (credit card debt, loans etc.) into a new mortgage set at a new (hopefully) lower interest rate. Once you’ve done this, your mortgage debt will increase by the value you rolled into it with the addition of a few thousand dollars extra to cover the costs you’ll encounter for breaking your old mortgage term and potentially a CMHC premium on the new increased balance.

Debt consolidation mortgages come with secured payment plans and a guaranteed payoff date so you know exactly how long it will take to get your debt cleared. You’re likely to encounter lower payments and lower interest rates by consolidating which can help you better manage your finances in the short and long term. Payment schedules can vary from weekly to monthly over a negotiated term and refinancing fees will apply (appraisal, title search, title insurance, legal fees, etc.) so be sure you’re prepared. If you change your mortgage, it’s likely that your terms will change as well. Be sure to do your homework when it comes to your debt consolidation options so you know the pros and cons of each choice in advance.

Refinance Options

In order to pursue refinance options, both you and your home must meet some specific requirements. In most cases, you’ll need a credit score of at least 620, but the exact score you’ll need in your specific circumstance will depend on the type of loan, how many units the property has and how much cash you’re looking to take out.

You’ll also need to have a certain amount of equity in your home to qualify. When you apply to refinance, your lender will require an appraisal of the property to determine its value. You can subtract your current loan balance from the appraised property value to determine how much equity you have in your home. While the minimum requirement varies by lender, you’ll typically need 15% – 20% equity.

Your debt-to-income ratio will also be considered when it comes to your application for refinancing. This is calculated by combining all of your reoccurring monthly debt and dividing it by your gross monthly income. While the maximum debt-to-income ratio will vary by lender, you’ll typically need a number that’s 50% or lower.

If you’re looking to consolidate your debt, refinancing offers a few different options to consider depending on your needs and financial situation:

Cash-Out Refinance
Your first consideration should be a cash-out refinance as you’ll be looking to pay off a large amount of debt. You’ll secure the loan in the same process as your original mortgage, except when you choose a cash-out refinance, you’re essentially refinancing your mortgage for more than you owe and pocketing the difference in cash. The more equity you have built up in your home, the more money you can convert to cash. In most cases, you won’t be able to take the full equity value in cash, so for planning purposes, it’s safe to assume you can refinance about 80% of the value. The main benefit of choosing this process is that you’ll be dealing with a fixed interest rate and you’ll have the ability to make small, consistent payments over the long term. If you have solid equity in your home and your credit score is good, a refinance may be the best choice for you.

Home Equity Line Of Credit (HELOC)
home equity line of credit (HELOC) doesn’t involve refinancing, but it’s a loan that’s structured like a standard line of credit. Generally speaking, it gives you access to 80% of the equity in your home. Most people take out a HELOC as a second mortgage because it can free up a significant amount of the equity of your home. HELOCs are a great alternative to credit cards when it comes to paying off debt because they follow mortgage interest rates, which are lower than credit card interest rates.

Home Equity Loan (Second Mortgage)
As an alternative to refinancing your current mortgage, some people may choose to take out a second mortgage by borrowing against the equity of their home and using it as collateral. If you’re approved for a second mortgage, you’ll be provided with a lump sum of money to do with as you please. You will be subject to closing costs in many cases and you’ll need to determine if the interest rate is variable or fixed.

Requirements For A Home Equity Loan
In order to qualify for a second mortgage, lenders will typically look at five areas:

  • Equity is key – The more you have, the higher your chances of qualifying for a second mortgage.
  • Regular bill payments toward things like utilities, cell phone providers, insurance etc. and/or a confirmation letter from service providers
  • Lenders want to verify that you have a dependable source of income, to ensure that you can make payments on time.
  • Your credit score plays an important role. A higher score gives you access to better rates.
  • Your property type, whether it’s a single-family home, condo, primary residence, second home, or investment property will also be a factor.       

Consolidating debt into a mortgage isn’t always the perfect solution for everyone. There are many options to consider depending on your personal situation and needs. Understanding the debt consolidation process and what you’re likely to encounter, is an important step to help you navigate the process smoothly and ensure you’re making the best possible decisions for you. Want to learn more about your refinancing and debt consolidation options? Get in touch with our team to start the conversation!