It’s a question as old as debt itself: Should I pay off one loan with another loan?
“Debt reshuffling,” as it’s known, has garnered a bad reputation because it often amounts to just trading one debt problem for another. So it’s no wonder the news that Fannie Mae would make it easier for homeowners to swap student loan debt for mortgage debt was met with some caution.
It’s awfully tempting to trade a 6.8% interest rate on your federal student loan for a 4.75% interest rate on a mortgage. On the surface, the interest rate savings sound dramatic. It’s also attractive to get rid of that monthly student loan payment. But there are things to consider.
“One thing we stress big time: It worries me, taking unsecured debt and making it secured,” said Desmond Henry, a personal financial adviser based in Kansas. “If you lose your job, with a student loan, there is nothing they can take away. The second you refinance into a mortgage, you just made that a secured debt. Now, they can come after your house.”
The cash-out refinance
The option to swap student loan debt for home debt has already been available to homeowners through what’s called a “cash-out refinance.” These have traditionally been used by homeowners with a decent amount of equity to refinance their primary mortgage and walk away from closing with a check to use on other expenses, such as costly home repairs or to pay off credit card (or student) debt. Homeowners could opt for a home equity loan also, but cash-out refinances tend to have lower interest rates.