Use Home Equity to Pay Off Debt in California

Home Equity Loan and HELOC: What Each One Means in Practice

These two are often mentioned together, but they behave differently once the money is in hand.

A home equity loan pays a lump sum at closing. It is then repaid on a set schedule of principal and interest, and the CFPB notes it "usually has a fixed interest rate," and that "if you cannot pay back the HEL, the lender could foreclose on your home."

A HELOC is a revolving line of credit up to a limit the lender approves. During the draw period, the borrower can borrow, repay and borrow again. The CFPB says the draw period "could last 10 years, for example," and that HELOCs usually carry a variable rate, so payments may change month to month. It adds that a lender might freeze the line if the home's value drops significantly or the borrower's finances change. When the draw period ends, the FTC explains, no more borrowing is allowed and repayment begins.

For a homeowner who still has a mortgage, the CFPB says both "would be considered second mortgages that you'd need to pay in addition to your first mortgage." Either way, the lender reviews income, credit and equity and decides whether to approve the loan and on what terms.

One protection applies to both. Under the FTC's description of the three-day rule, a borrower can cancel within three business days for any reason and without penalty if the main residence is the collateral; it does not apply to a vacation or second home. A closer look at how this differs from a reverse mortgage appears in reverse mortgage vs home equity loan.

Cash-Out Refinance: One Mortgage, but a Larger Balance

A cash-out refinance takes a different path. Instead of adding a second loan, it replaces the existing first mortgage with a new, larger one. The difference between the new loan amount and the old balance is paid to the borrower at closing.

The appeal is simplicity: one mortgage payment instead of two. The trade is that the mortgage balance is now larger, and the loan term starts over. For an older homeowner who was close to paying the house off, that can mean mortgage payments stretching well into later years.

The interest rate matters in a way that is easy to miss. If rates today are higher than the rate on the original mortgage, the new monthly payment may rise, even if the new rate is lower than what the credit cards were charging. The cheaper rate on the card debt comes bundled with a costlier rate on the whole house balance.

The home remains collateral, and missed payments can lead to foreclosure. As with the other options, a lender decides whether to approve the refinance, and the terms depend on its review of the borrower's finances.

For a homeowner who was close to paying off the house, this path can mean carrying a mortgage much longer than planned.

Reverse Mortgage: An Option for Homeowners 62 and Older

Some California homeowners carrying debt in retirement wonder whether a reverse mortgage could clear it without adding a monthly bill. It can be used that way, but it is a loan, not free money, income, a gift, a grant or a government benefit.

The CFPB explains that a Home Equity Conversion Mortgage (HECM), the most common type, is "only for homeowners who are 62 and older," and that borrowers "don't make monthly mortgage payments." HUD says the HECM is the only reverse mortgage insured by the federal government and is offered only through an FHA-approved lender. On HUD's HECM page, the amount available depends on the youngest borrower's or eligible non-borrowing spouse's age, the current interest rate, and the lesser of the appraised value, the HECM FHA mortgage limit or the sales price.

The obligations come together:

• The balance grows. Interest and fees are added each month, so the amount owed goes up and equity goes down.
• The home stays the principal residence. The borrower must keep living there, pay property taxes and homeowners insurance, and keep the house in good condition.
• The loan comes due. It is repaid when the last borrower dies, sells the home or moves out.

A borrower who falls behind on taxes or insurance can lose the home. Before a HECM, the FTC says the borrower "must meet with a counselor from an independent government-approved housing counseling agency first," and the counselor must explain costs and alternatives. In California, the DFPI explains that anyone in the business of making or servicing residential mortgage loans must be licensed under the CRMLA, with exemptions including banks, credit unions and licensed real estate brokers.

If carrying debt into retirement is the concern, this option removes the monthly mortgage payment but does not stop the balance from growing.

What Lenders Look At and What Each Option Costs

Across all four options, approval is not automatic. For a home equity loan, HELOC or cash-out refinance, the lender reviews income, credit and the amount of equity in the home, and sets the terms based on that review. How much can be borrowed depends on how much equity remains after any existing mortgage is counted, so a home with a large remaining balance leaves less room to borrow against.

For a HECM, the amount available is set by the factors HUD lists: the youngest borrower's or eligible non-borrowing spouse's age, the current interest rate, and the lesser of the appraised value, the HECM FHA mortgage limit or the sales price.

Costs differ from the monthly payment alone. The CFPB notes that home equity loans may carry upfront fees and costs, which is why comparing more than the monthly payment matters. With a reverse mortgage, interest and fees are added to the balance over time rather than paid monthly, and the required counseling session covers the loan's costs and alternatives.

What Using Home Equity to Pay Off Debt Actually Trades

The heart of the decision is a change in what stands behind the debt. Credit card debt is unsecured: in most circumstances, a card company cannot take the home over an unpaid balance. A home equity loan or HELOC is secured by the house, and the FTC warns that "if you don't repay the outstanding balance, the lender can take your home as payment for your debt."

The pull toward this move is understandable. Interest on home equity borrowing is often lower than on credit cards. But the collateral changes from nothing to the place the homeowner lives.

A second risk is quieter. If whatever led to the card balances continues, a borrower can end up with a home equity loan and new card balances at once. The CFPB suggests exploring alternatives with a credit counselor "that do not potentially put your home at the risk of a forced sale."

Equity used now is also equity not available later, for an emergency, for heirs, or for care. How home equity can help with that last need is explained in paying for long-term care with home equity.

California law also has a homestead exemption, which protects a portion of home equity from most creditors in a bankruptcy or a court judgment. Using that equity to pay unsecured debt turns protected value into a loan secured by the home. The current exemption amount and how it applies are questions for a bankruptcy attorney.

California's Department of Real Estate has also warned seniors never to pay anyone for home loan services in advance and never to sign a loan agreement they cannot afford or do not understand.

The shift from unsecured debt to a loan secured by the home is the central trade every family in this situation is weighing.

Other Options That Do Not Touch the House

For a family sorting through this, the choice is wider than four loans. Several paths do not touch the house at all.

• Budget and benefits review. A close look at spending, or claiming benefits the homeowner qualifies for but has not applied for, can sometimes ease the strain. It involves time and paperwork, and trades nothing against the home.
• California property tax relief. California has property tax relief programs for some older and lower-income homeowners. The county assessor or tax collector's office can explain what exists and who is eligible.
• Nonprofit credit counseling. A nonprofit credit counselor can help build a budget, and a debt management plan arranges repayment with card companies, sometimes at lower interest, without borrowing against the home. The CFPB cautions against firms that ask for big upfront fees or make unrealistic promises.
• Selling or downsizing. Moving to a smaller home can free equity without new debt. It trades the familiar house and neighborhood, and moving has its own costs.
• Help from family. Some families arrange an informal loan or a contribution. Clear terms in writing can help everyone, and family dynamics carry their own weight.

A side-by-side view of these choices appears in California home equity options for seniors, and a broader comparison in home equity options for seniors.

Knowing these paths exist can change the shape of the conversation a family is having.