Home Equity and Bad Credit: The Right Loan for the Right Reason

There are 5 common reasons for taking a home equity mortgage loan. If you have bad credit, it may make sense to finance debt with a home equity loan. Or not. Borrowers with poor credit must be extremely careful to take a home equity loan for the right reasons. Here are common reasons for refinancing and the pros and cons of each.

Reason #1: Debt Consolidation

Rates on credit cards for those with bad credit can be higher than 25% and fees can be even more. There may be many advantages to debt consolidation with a home equity loan, including lower payments and interest rates, and tax advantages. Remember that if you can't make the payments you could lose your home in foreclosure proceedings. Credit counseling or bankruptcy might be a better option if you don't have the income to make the payment on a home equity loan.

Reason #2: Renovation Expense

If your credit is bad but your income is good it could make financial sense to renovate (especially if you need to sell a home in a bad market) and a home equity loan could be a lowest cost way to go. If you could be financially derailed by unexpected problems (for instance you don't have health insurance) think twice before taking on debt secured by your home.

Reason #3: Educational Expenses

Investing in your family's future and financing its education expenses can pay off in the long run. If you have bad credit, it may be easier and cheaper to get a secured home equity loan than an unsecured student loan from a finance company. And there may be tax advantages as well. There are many sources of financial aid available. Try scholarships and grants first before attaching debt to your house.

Reason #4: Car Purchase

If you have bad credit and can make the payments, an equity line might get you a better rate than an auto finance company. With a bad credit history you must be careful with purchases on credit; make sure that you aren't taking a 30 year loan to buy a car you'll have for 5 years.

Reason #5: Second Home Purchase

Taking a home equity loan can be a sensible way of getting a down payment for a second home or investment property. You have a better chance of being approved for your purchase, and of getting a lower rate, if you come up with a substantial down payment. If you don't make your payments you could lose two homes instead of just one.

By Gina Pogol