Underwater Homeowners and Debt Consolidation Loans

Mortgage interest rates are still at near-record lows, with Bankrate.com reporting in mid-March that the average rate on a 30-year fixed-rate mortgage stood at 5 percent. If homeowners refinanced a $200,000 30-year fixed-rate loan from one with an interest rate of 7 percent to one with a rate of 5 percent, they’d save about $250 a month. Think of what you could do with that extra $250; you’d certainly be able to pay down a good portion of their outstanding debt each month. There’s a problem, though: Too many homeowners today can’t refinance their mortgage loan. Again, the weak economy is to blame.

Underwater Borrowers

Too many borrowers today owe more on their mortgage loans than what their residences are worth. This is called being underwater, and reports from data company First American CoreLogic found that nearly one in four homeowners faced this financial situation in the third quarter of 2009. Homeowners who are underwater can’t qualify for a refinance. Most traditional mortgage lenders and banks require homeowners to have at least 20 percent equity in their residences to qualify for a refinance. It’s a shame that with interest rates at such historically low levels, so many homeowners can’t take advantage of them. If more people could refinance, it would more than likely mean fewer of them would turn to debt consolidation loans.

No Other Choice

It’s not that debt consolidation loans are inherently bad. Used properly, they can be a financial safety net for consumers. But these loans do come with certain negatives that a home refinance doesn’t have. For one thing, debt consolidation loans often come with both high fees and high interest rates. Refinances aren’t free, of course, but homeowners can generally roll the costs into their new monthly mortgage payments and still come out ahead financially. The second negative with debt consolidation loans is the damage they cause to consumers’ credit scores. Taking one out will lower consumers’ FICO, or credit, scores. This can make it more difficult for them to obtain loans in the future. Refinancing a mortgage loan has no negative impact on your credit score.

Is There Hope For Underwater Owners?

The Home Affordable Modification Program launched last year by the Obama Administration includes a program designed to allow some underwater homeowners to refinance their mortgage loans. But the program only works with people whose mortgage loans are worth 25 percent more than their homes. Those homeowners who are even deeper underwater, and there are many of them, are still out of luck. For these people, debt consolidation loans may be the only solution.