Credit cards not for car or house payment

Dear Debt Adviser,
I owe about $55,000 in credit card debt. Should I apply for a home equity line of credit to pay this off? I received a very low rate on the card, so I put my vehicle on the one credit card a few years ago, plus house repairs. Now the creditor wants to raise my interest rate from 2.99 percent to 14.99 percent. I cannot afford these monthly payments. I was never late with payments and my credit score is more than 700.
— Buf

Dear Buf,
If you play with fire, you will eventually get burned. When you put $55,000 on your credit card that included a car purchase and home improvements, it was with a certain amount of risk. It is a risk because credit cards do not have a fixed interest rate like a car loan or home equity loan. One might argue that you should have used them for these purchases rather than your cards. So, as you have painfully learned, your risk did not pay off and the interest rate on your card has been increased.

At some point in our national dialogue concerning our new relationship with credit, debt and savings, we need to acknowledge that consumers are at least partially responsible for their current financial predicaments. To not do so would waste a painful, but very teachable, moment in our national financial education.

Now that you know taking a gamble on financing large, long-term purchases with a short-term credit card is not worth the risk, the question remains what type of credit is appropriate in your situation and can you afford it? You are fortunate that your credit score has held up as well as it has. If you miss a payment, I can assure you it will drop. So, while you are figuring out your next move, do whatever it takes to keep up your card payments so as many options remain open as possible.

3 ways to keep from wrecking your credit:
  1. Restructure your debts.
  2. Keep making your payments.
  3. Match type of credit you use with your purchase.

First thing I suggest you do is to segment your credit card debt by type. You have car debt, home improvement debt and, I’ll bet, some consumer debt. Contact your local bank or credit union and try to finance as much of your car debt as you can with an auto loan. You may find that your interest rate will be less and it will be fixed for the term of what will probably be a shorter payback period. Most credit cards calculate your minimum payment over a seven- to 10-year payback period. A car loan will be for a shorter term. It would be considered a refinanced car loan, and you should qualify for an interest rate of around 6 percent for a 36-month loan.

Next, while you are at the lender’s office, ask about a home equity product for the portion of the card balance that came from home improvements. In your case, I suggest an equity loan rather than a line of credit. This will give you a fixed interest rate and a longer payback period than your card, so you should be paying less on this portion of your debt. Right now, the interest rate on a home equity loan is about 8.5 percent. It may go without saying, but use the proceeds of these loans to pay down your credit card debt.

Next, dig out your cardholder agreement and see if you can opt out of the interest rate hike from the creditor. If your cardholder agreement allows it, you can send written notification to your creditor that you do not accept the proposed changes to your agreement and wish to opt out. Your account will be closed and you will be allowed to pay the remainder of the balance at the lower interest rate of 2.99 percent.

A word of caution: If you do opt out, your creditor may still have the option of increasing your minimum payment percentage and/or changing your interest rate to a variable rate, and neither action by the creditor would come with the ability to opt out. So make a commitment to yourself, your financial future and your sanity to get the remaining card balance paid off in as short a time as possible. Retool your budget to the bone until you have your finances back under control.

Good luck!

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