Smart Ways to Approach Refinancing to Consolidate Debt

Rolling your debts into your home loan can lower your monthly repayments, but it can also cost you more in total interest. For Service NSW staff, the question is not whether the repayment drops. The question is whether the total cost drops too.

A lower repayment feels like relief, especially when you are juggling a car loan, a credit card and maybe a personal loan. The catch is the loan term. Debt that would have been cleared in three to five years can end up spread across the remaining years of your mortgage.

What Does It Mean to Refinance to Consolidate Debt?

Refinancing to consolidate debt means replacing your current home loan with a larger one, then using the extra amount to pay out other debts. You end up with one loan and one repayment, usually at a lower interest rate than a credit card or personal loan.

The new loan can be with a different lender or with your current one. Because you are borrowing more, the lender must make reasonable inquiries about your needs and finances and check that you can afford the new loan. Your equity matters too. If you have less than 20 per cent equity, lenders mortgage insurance may apply, which adds to the cost. A home loan health check is a sensible first step to see where you stand before you apply.

How Much Can You Really Save by Consolidating Debt Into Your Mortgage?

You save when the total interest and fees on the new loan are lower than what you would have paid on the old debts. The repayment alone does not tell you this.

As an example, consider a Service NSW team member with a car loan and credit card debts totalling $30,000. Say these are charged at much higher rates than the home loan, with about three years left on the car loan. They roll the $30,000 into a mortgage with 25 years remaining.

Using an illustrative rate of 6.75% p.a., the extra repayment on that $30,000 over 25 years is about $207 a month. That is far less than the repayments on the old debts, so cashflow improves straight away. The cost is time. Over 25 years the extra borrowing at 6.75% p.a. adds up to roughly $62,000 in repayments, which is more than double the amount borrowed.

The solution is to keep the repayment higher than the minimum. If this person keeps paying what they were paying on the old debts, around $900 a month in this example, the $30,000 is cleared in just over three years at the same illustrative rate. They keep the lower rate and clear the debt quickly. The outcome is lower interest and a shorter payoff, but it relies on discipline, because the lender will only ask for the smaller amount.

This is an illustration only. Your numbers will depend on your lender, your deposit and your loan features.

Is Consolidating Debt Into Your Home Loan a Good Idea?

It can be, if the new rate is lower and you repay the extra amount faster than the loan term requires. It is a poor idea if you only want smaller repayments and plan to pay the minimum for decades.

The main trade-off is that unsecured debts, such as credit cards, become secured against your home. If you struggle to repay, your home is at risk. Also, if your repayments fall only because the term is longer, you pay more interest overall. Lenders and brokers are expected to explain this effect clearly.

If you clear the cards and then use them again, you could end up with both mortgage debt and new card debt. Consider lowering or closing card limits.

Which Debts Are Worth Rolling Into the Mortgage?

High-rate, short-term debts such as credit cards and personal loans are the most common candidates. Debts with low rates or a nearly finished balance often do not suit consolidating.

A car loan with a few months left is usually paid off as planned. If you are also thinking about a new vehicle, our page on car loans for government employees covers a separate way to fund it. For a wider look at other debts, see debt consolidation for public servants.

If you have a fixed rate loan, check the break fee before you switch. A break fee applies when you end a fixed rate loan early, and it can wipe out your savings. If your fixed rate is close to ending, waiting may be cheaper. Our page on fixed rate expiry explains what to expect.

What Costs Come With a Debt Consolidation Refinance?

The common costs are a discharge fee on the old loan, an application fee on the new one, a break fee if you leave a fixed rate early, and possibly lenders mortgage insurance. These costs vary by lender, so check them before you commit.

Exit fees on variable loans taken out after 1 July 2011 are banned for home loans, but discharge fees and break fees are not covered by that ban. Mortgage duty was abolished in NSW from 1 July 2016, so you should not face that charge on the new mortgage. Ask your lender to confirm all fees in writing.

One rule of thumb helps. The saving needs to outweigh the costs, including any broker fee. If it does not, staying put may suit you more.

How Does Your Credit History Affect a Consolidation Refinance?

Lenders look closely at how you have repaid your existing loans, and a steady history helps. They also check that the new, larger loan fits your income and expenses.

Lenders must assess whether you could afford repayments if rates rose by 3 percentage points above the loan rate. Missed payments or heavy card use can make this harder. Lenders also consider employment type and length of service when assessing income. Our page on home loans for Service NSW employees outlines how your role is treated.

If you are already behind on repayments, a new loan with similar repayments is unlikely to be seen as suitable. In that case, it is worth talking to your lender about hardship options first.

Tax and Your Refinance

Interest on money borrowed for personal use, such as clearing a card or car loan, is not tax deductible. If your home loan also funds an investment property, the ATO requires interest to be split between the private and investment parts. Speak with your accountant before you restructure any loan that has an investment portion.

If you have refinanced and want to make sure each part of the loan is set up cleanly, our home loan refinancing page explains how we approach it.

If you want to see whether consolidating would save you money, call one of our team or book an appointment at a time that works for you. We will compare your current debts against a new loan, count every fee, and show you the total cost either way.

Frequently Asked Questions