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Which Should You Pay First: Credit Cards or Mortgage?

This article was written by in Debt Reduction. 25 comments.


Imagine your income were sliced in half while your debts remained the same. How would you prioritize your payments? For those who have only credit cards, I’ve always suggested using, or at least understanding, the Debt Avalanche, but that doesn’t take into account other debts you might have such as personal loans and the mortgage.

Over the past couple of years, more consumers in precarious financial conditions due to unemployment or an otherwise lack of income have decided credit cards should be higher on the prioritization list than the mortgage. By the end of 2009, twice as many people were delinquent with their mortgage payments while current with credit card payments than were delinquent with credit card payments while current with mortgage payments. This is according to a study by the credit reporting bureau Trans Union, a company with millions of data points at its figurative fingertips.

Part of this might be due to the credit crunch and lower balances on credit cards in general, but it also may be due to the frequency of foreclosures and the general tendency for people to lose faith in the value of their homes as they watch the real estate market crumble. Many homeowners are giving up and walking away from houses with mortgages they can’t afford. If the only punishment is a tarnished credit report, there isn’t much of an incentive for people to keep paying money if they’re not building equity.

Also, families in financial trouble still need at least the basic necessities: food, water, and shelter. For those without a solid emergency fund, credit cards are the most typical financing strategy in times of need. You can even use a credit card to pay your mortgage.

I see the rationale for prioritizing these bills; if a credit card is revoked, someone may not be able to procure the necessities of life. A mortgage should be prioritized higher than credit cards, however, because the mortgage is secured debt. Your house is collateral. The bank that holds your mortgage can take away your house if you don’t pay. Even though some people are comfortable abandoning a house that has declined in value, it’s not a smart move. There’s a good chance real estate value will eventually return, so as long as you have a reasonable interest rate and have been paying down the principle of the loan, sitting tight will pay off.

Credit cards are unsecured loans. Knowing that this type of debt is a lower priority, credit cards will do whatever they can to get you to pay. They will call you, bother your neighbors, sell and even your debt to a collection agency who will do worse. The credit card issuers know that you won’t pay unless they make it seem like you’ll be in major trouble if you don’t send a check. Meanwhile, banks are ready to take your house if you don’t pay, even though most banks are struggling companies and don’t want to take on real estate that is performing poorly in the short term.

If you have to choose between making a mortgage payment and a credit card payment, choose the mortgage. Do you agree or disagree?

Published or updated February 4, 2010. If you enjoyed this article, subscribe to the RSS feed or receive daily emails. Follow @ConsumerismComm on Twitter and visit our Facebook page for more updates.

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About the author

Luke Landes, also known as Flexo, is the founder of Consumerism Commentary. He has been blogging and writing for the internet since 1995 and has been building online communities since 1991. Find out more about him and follow Luke Landes on Twitter. View all articles by .

{ 25 comments… read them below or add one }

avatar Dan

I’ve heard that from the day you stop paying your mortgage, you can probably get six months before they actually kick you out. If you have an underwater mortgage that you can’t afford, odds are, you’re saving A LOT of money. Then, you can gut the place and sell all of the fixture for more cash.

If you have sizeable credit card debt and the debt collectors think you have the ability to pay, you run the risk of being sued and getting your paycheck garnished.

Truth be told, if I ran into that situation, I’d get into a rental before the mortgage dings start hitting my report. That way, I have a cheaper place to stay and the bank can come and take the house.

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avatar SteveDH

“If you have an underwater mortgage that you can’t afford, odds are, you’re saving A LOT of money. Then, you can gut the place and sell all of the fixture for more cash.”

“MERCER, Pa. — A former Mercer County mortgage broker who gutted his $1.2 million home before a sheriff’s sale has been sentenced to three to 15 months in jail and must pay more than $174,000 to an insurance company.
Authorities say 40-year-old Scott McCuskey, of Sharpsville, stripped cabinets, toilets, a Jacuzzi, locks, garage doors and other items. He was convicted of defrauding creditors and fraud in insolvency in April.”

A felony conviction might hurt more than the bad credit score. You might need to modify your approach ;-)

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avatar Moneymonk

The thing about a mortgage payment is that once you are 2 months late, they usually want the payment in full for the 2 months that you are behind

Unlike a credit cards, they always take partial payments

Therefore, it’s crucial that you pay your mortgage.

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avatar Steve

If you don’t pay your credit card, they’ll raise your rate to 30% as well as charging you $39 a month in late fees (and maybe over the limit fees on top of that, depending on how close to the edge you are.)

A mortgage might hit you with a fee but they won’t raise the rate on the entire balance. Also, if s*** is really hitting the fan, and you live in a no-recourse state… you don’t really have much to lose by letting your mortgage lapse, and you can even get 6 or more months of “free rent” while you’re at it.

I’m not sure which would be worse long term (e.g. for your credit report.)

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avatar Anthony

Fortunately for us, my and my wife’s income is $100k, half of which is obviously $50k. Our monthly debt payments (including student loans, mortgage, utilities) are just under $2k. Including non-debt necessities (gas, food, etc.), we *need* about $2500/month. Our income would be $50k/year (pre-tax) = $33k/year (after-tax) = $2750/month. We would have enough to cover our debt, mortgage, gas, food, etc. if both of our incomes were slashed in half.

To answer your question directly though…

If my mortgage/home is excessive (more than I need), then I would look to rent or find something smaller. The amount I save from my new mortgage/rent would be put towards credit cards.

If my current mortgage/home is better/cheaper than the alternatives (renting, smaller home, etc.), then I would pay my mortgage rather than the credit cards. In the end, the credit card companies will write off the balances. This would be very bad, but it’s better than losing the roof over my head.

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avatar Apex

If the house has equity and the payment is payable then you should keep paying the mortgage.

However for most people in this situation the house has significant negative equity and the payments are significant (perhaps recently reset to be even much higher than before).

In this situation the choice is easy. Stop making mortgage payments. You will get about 12 months of free living in this environment. It will take them about 3 months to decide to start forclosure. Another month or two to get it to sherriff sale. A mandatory 6 month recission period and then probably another month or two for them to get it on the market and kick you out.

I don’t advocate people not paying any bills but if you are going to destroy your credit and basically default on your financial obligations, a house is just a building and if it has not actual equity value in it, stopping the payments, living free for a year and then walking away is a pretty easy choice.

It’s actually not even close. Hence the number of people getting forclosed who are still paying their credit cards. They know which credit they need and which they don’t and which one is money down a rat hole and which one is not. It turns out in these cases, that paying the mortgage is money down a rat hole.

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avatar Financial Samurai

A good decision is to decide which side the gov’t will bail you out the most. The answer is your mortgage, hence pay your CC debt.

The gov’t will bail people out left and right, b/c remember, the economic downturn was the fault of the banks, and not the people who bought more house than they could afford.

Sam

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avatar Apex

To Sam,

While true that plenty of people did buy far more house than they can afford, it is not going to help us avoid these kinds of problems in the future if we rely on people to make wise rational decision. See my previous post about rational actors.

Bankers should never have been given enough rope to make such risky bets with OPM (other people’s money) and then get bailed out because their failure will be catastrophic to the entire system.

So if you want to put blame on actors who should know better who should get more blame. Common citizens who can’t even balance their budget or bankers, underwriters, and brokers who are supposed to be able to analyze risk and make appropriate allocations of capital and risk protection measures. The system allowed them to take excessive risk using the inherent irrationality and herd mentality of the common actor without having to account for the downside of that risk.

And you can’t hardly blame them if the downside to themselves was minimal, but the common citizen is frankly too stupid to know what they are doing in these matters. Most bankers knew what the potential downsides to this were but got caught up in the profit and in the eventual belief that you just keep riding the wave and when its being going for this long you start to think it will never end.

I never put any faith in the common citizen making wise choices. If you leave it to them, they have proven with money more than half will make far less than optimal decisions. I also never leave it to the money brokers to make wise decisions as long as they are using OPM and have minimal risk to themselves.

So you must bring in tough rules or expose those making the decisions to the full naked risk of their own choices and if they are wrong, they bear the full brunt of that choice. The trick is to structure that system so that when they bear the brunt of their poor choice it is they and they alone who suffer rather than the economy or financial system as a whole. If you can do that, let the banks eat cake as they say.

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avatar Mrs. Money

I would agree. It’s more important to have a place to live!

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avatar RainyDaySaver

Yet another example of why it’s important to live below your means. Maybe not 50% below, but enough to give you a shot of paying your bills if your income takes a hit. I also have to go with paying the mortgage. Even minimal payments toward the CCs will keep them at bay–for a while.

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avatar Jim

If you can pay your bills you should pay your bills.

If you can afford to only pay your mortgage OR your credit cards then you should pay your mortgage.

But I suspect that most of teh people who pay the credit cards but not the mortgage are defaulting on the mortgage cause they simply can’t afford it. Mortgages are a very large bill so it may not be affordable.

Example: Say I make $50k and live paycheck to paycheck. Then I lose my job. Now I’m getting $1500 a month in unemployment. If my mortgage is $1600 then I can not afford the mortgage. If I don’t find a job quick then it will only be a matter of time before I lose the house. So I’m forced into default before long. But my CC minimum payment is 1.5% of the balance or $20 whichever is higher. I can still pay the credit card plus if I keep those payments current then I can continue to use that credit card to buy stuff like food and gas. In fact you can possibly even get cash advances off the credit card and use that to pay the credit card and keeep your CC debt self perpetuating.

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avatar Financial Samurai

Apex – I’m surprised you don’t think normal citizens don’t know it’s wrong to buy more house than they can afford. I’m with you. Let’s blame others for our mistakes. It is the American way.

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avatar Apex

I didn’t say I think they don’t know its wrong (although I am sure some don’t know that either). What I said is they are too stupid to know what they are doing and make wise choices. Many don’t have any clue what they are doing. Many didn’t know they were buying more house than they can afford. The bank told them they were qualified for X amount. Their rate was cheap, they could afford the payment. And plus houses go up 15% per year and they can just borrow against the gain if they need to. Their brother did it and he doesn’t make any more than them. Their friend did it and they don’t make any more than them. Heck their uncle did it and he is on welfare. Heck yes they deserve this house and should have it.

But you didn’t address the large point of the fact that all these people did this and whether or not you think they knew what they were doing if you let them do it again (the bankers or the buyers) do you think the chance is 99.9 or 99.99 percent that a large group of people will do it all again (give them 10 years to get past this episode and get a new group of stupids and suckers).

Of course they would.

But lets just all say they should know better and not do anything about it. Don’t solve the problem because we think it shouldn’t be happening. Then when it does happen, let the government fix it. That’s the American way.

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avatar Peach

I agree with Apex 100%

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avatar Credit Card Chaser

Oh, but it’s never my fault – those mortgage papers practically sign themselves and if I even turn around for one second my credit card just starts charging itself – oh wait, there it goes again a new tab is open and I am visiting Amazon.com…. not my fault though of course ;)

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avatar My Frugal Miser

I totally agree that if I had to choose, I’d pay my mortgage first. The essentials in life are food, clothing and shelter. For most people, clothing is not a problem. You may not have the nicest clothes, but most people have at least a couple of outfits. Then there is food. That can be cheap, or even free. Even if you can’t qualify for food stamps, there are food pantries, soup kitchens and various other ways to score some grub. If you are really desperate, you could live off $1/day for food for a while. It wouldn’t be tasty, but that isn’t the point. Then there’s shelter.

Having a roof over my head is more important to me than anything else. So, if I had to choose between the mortgage and credit cards (and this argument assumes you are to the point of using credit card for clothing and food), I’d always pay the mortgage first.

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avatar sfgirl

I think it would be better to pay off you mortgage and try to cut credit card spending.

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avatar Erica Douglass

Faced with this choice, you should pay your credit cards first, because you’ll get at least 12 months “free rent” and possibly more when you default on your mortgage.

“There’s a good chance real estate value will eventually return”

Unlikely in many places in CA, where prices have dropped by as much as 94% in some areas! (That’s a formerly half-million dollar house now going for about as much as a car…in Riverside County.) Even in more “prime” areas, defaulting on your mortgage is at least likely to get you a lower interest rate from the banks. When you can get rewarded for defaulting, many people will. That’s exactly the situation much of California is in now.

And you have to consider–even if prices are down “only” 20%–that’s often well into 6 figures, here. It’s also been cheaper to rent here since 1996. So why throw money away by owning, when you can rent for less?

-Erica

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avatar Financial Samurai

B/c you can throw your money away on rent just as easily. The owning housing stock is by nature nicer than the rental housing stock, b/c landlords don’t have much of an incentive to keep up their place much more than the minimum.

The real winner out of all this is the landlord. One who doesn’t care about the principal value, but just cares about cash flow. Bull market, people pay more in rent. Bear market, less people can buy, and more people rent.

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avatar H Lee D

I am not a proponent of walking away from a house that is affordable.

That said, “There’s a good chance real estate value will eventually return,” might be true, but not in my lifetime. We bought our house for $320,000. We were thinking about refinancing and it was appraised at $190,000. Even with the $100K we put down and consistent, on-time payments for four years, we can’t refi without going upside down. I would like to move to live closer to my job, but it’s impossible. If I change jobs, I take a huge pay cut (I’m a teacher, and districts here don’t pay you for more than one or two years of experience when you’re hired, and I have nine, plus a master’s, plus an additional highly-valued certification).

So if I had to choose between CCs and my mortgage, I’d pick CCs.

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avatar Financial Samurai

Bingo! That is the way a shrewd person thinks.

It’s weird how on a percentage basis, the lower end houses have fallen so much more. Here in San Francisco, the $1.5 million 2 bedroom condo in a prime area at one point dropped to about $1.25million in the middle of last year, but that’s just 17% or so vs. 30% for your example.

Over the past year, prices have rebounded by about 10%, so the condo is around $1.4 mil again (just saw 3 sales in the neighborhood).

The guy owning the $1.4-1.5 mil condo isn’t affected by a 100K principal loss. So I wonder ,whether it’s always better to just buy in a “super star” city in a prime location.

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avatar Single Guy Money

For me, it would be a no-brainer to pay the mortgage over the credit cards. I like living indoors so having a roof over my head is much better than having a paid up credit card bill. I can deal with the harassing calls from the credit card companies. I can’t deal with living in a cardboard box.

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avatar jay

Well the next wave of problems will be on people defaulting on credit card payments. Banks dont usually accept credit cards to pay mortgages so people have been using their credit cards to have cash available to pay mortgages. I think it is also more damaging to have a foreclosure than defualting on credit cards.

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avatar MN Realtor

There is an alternative. Short Sale. I know this isn’t an answer to the question. But an alternative to walking away,(stop making mortgage payments) or, “strategic foreclosure”, is a short sale – an attempt to sell for less than what is owed. The mark on your credit report will be stated something to the effect that the debt was paid, but less than amount owed,
and in two years you can buy another home(I just seen this happen). Most likely seven years if you go into foreclosure, before you’ll own again and that’s only if you keep your credit score high enough. I sell homes, and I sell short sales. I too am wondering what to pay first as that time is approaching, I believe. I cannot fathom losing my home of eleven years and my $100,000 down payment. But it is what it is. Pay cuts, and a drastic change in the real estate market has made this a reality. I would like to think that if I kept my credit score in tact (pay my unsecured debt), that I may again be able to own a home in the future. If you don’t pay credit cards, they can get a judgement against you, they can get your wages (or husbands wages in my case) garnished, and then you’re screwed. I think I’d pay credit cards and consider the last eleven years here as rent. I would have had to pay someone, right? So I’ll pretend that GMAC was my landlord and maybe I’ll sleep better at night. This market won’t be making a huge turn around for a while. It’ll be another ten years to recoup my loss, IF the market starts back uphill soon.

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avatar wylerassociate ♦162 (Cent)

Since I’m not a homeowner, I’m focusing on paying off credit card debt & then look to purchase a home.

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