When is debt consolidation a good idea?

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Debt consolidation could be a good option if you have unmanageable debt and high interest rates — or just want to optimize your debt repayment.

Though applying for a new loan or line of credit may seem counterintuitive, it could help you handle your outstanding balances.

Through a debt consolidation loan, home equity loan or balance transfer, you can combine your debt accounts into a single, fixed monthly payment — ideally with a lower interest rate. Alternatively, you could opt for a lower monthly payment (at the cost of accruing interest) if that fits your budget better.

How debt consolidation works

If budgeting and increasing your income aren’t enough, consolidating your debt into one new account could help. There are various ways to consolidate your debt, and it’s important to explore these options in detail to find out what’s best for your situation.

Debt consolidation loan: Personal loans for consolidating debt are available from online lenders, banks and credit unions. Even if you have fair credit (or a credit score between 640 and 699), you might qualify for a debt consolidation loan with a lower interest rate than the rates of your current debt accounts. Basically, you’d use the funds from the new personal loan to pay off your current creditors — in some cases, personal loan companies may offer to pay off your outstanding balances directly. Then you’d begin making payments on the new loan according to the APR and repayment term. 

Tap your home’s equity: If you’re a homeowner, you might consider a home equity loan or home equity line of credit (HELOC). Both allow you to borrow from the equity you’ve built up in your home. A home equity loan allows you to take out a fixed amount of funds, and a HELOC allows you to “draw” on the funds as needed. Many lenders allow you to borrow against your home as long as you’d retain 20% equity in the property (assuming you meet other eligibility criteria, too). Also, keep in mind that if you fall behind on payments, you could  lose your home.

Balance transfer credit card: While it may seem like a bad idea to get a new credit card, a balance transfer card offering a 0% introductory APR could be a useful solution. With this strategy, you would pay off your outstanding balances with the new card, effectively transferring the balances to an account with a low or no APR. It’s really only advisable, though, if you anticipate being able to pay off the transferred amount before the introductory APR expires. Otherwise, the card’s typical, double-digit APR would take effect, and you’d be back where you started.

When evaluating these options, consult a monthly payment calculator, such as a personal loan repayment tool, to see what your real-life payments would be. Then you can assess affordability before proceeding.


How do you know if you should consolidate your debt?

Money-related moves can seem overwhelming at first, but weighing your options and considering your personal situation is key to making the right decision. To help, review the pros and cons of debt consolidation.

Additionally, below are scenarios when debt consolidation might — or might not — be an effective solution.

When to consider debt consolidation

  • You have multiple debts: If you have a few or even handful of different creditors, consolidating with one lender and receiving a single monthly bill can simplify your repayment.
  • You have a fair, good, or excellent credit score: The better your credit, the more likely you’ll qualify for a lower interest rate on a debt consolidation loan, or for a balance transfer credit card. Some forms of debt consolidation financing might also allow you to piggyback onto the credit of a cosigner, too, if your credit needs improvement.
  • Your financial situation has changed: Maybe an unexpected medical bill caused you to max out your credit cards and eventually lose your job. But now you’ve recovered and have accepted a new job offer, one that increases your income and puts debt recovery in your sights. By consolidating your debt with a low-interest personal or home equity loan or a 0% balance transfer credit card, you can avoid paying excessive interest and wipe your debt clean in a shorter span.

When debt consolidation might be unwise

  • Your debt is small: Applying for and covering potential fees of debt consolidation may not be worthwhile if you have a relatively small balance that you can handle in short order. After all, personal loans often carry origination fees and balance transfer cards can include a transfer fee. Factor these surcharges into your decision of whether or not to consolidate.
  • You’re not willing to change your spending habits: Paying off debt is an integral part of an overall debt management strategy, but if you’re not willing to spend less and budget better, debt is likely to return. In fact, after consolidating, you may feel like you have more money to spend because you’re paying less interest with lower APRs. So, debt consolidation may be unwise if you haven’t set up a plan to stay out of debt. Otherwise, you could risk finding yourself in a worse scenario than when you started.

Debt consolidation alternatives

If you’ve determined that debt consolidation isn’t the right answer for you, there are alternatives that can improve your financial situation.

  • Debt management plans: These nonprofit credit counselor-initiated plans consolidate your debts into one monthly payment and can even lower your interest rate. The plan will work with your creditors to establish a new, realistic repayment plan, usually spanning three to five years. Be sure to investigate the specifics of this plan as any default on payments can cancel the terms of your agreement. You might start by considering a credit counseling agency approved by the National Foundation for Credit Counseling or the Financial Counseling Association of America.
  • Debt settlement: A great option for some, debt settlement involves negotiating to pay less than you owe. By working with your lenders, you can settle for a lower, lump-sum payment that is within your means. However, be aware that your creditor may not agree to settle, particularly if it believes you have the financial capability to keep making full payments.


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