Debt consolidation could relieve some of the stress you feel from managing payments to several different lenders. It also could save you money and help you get out of debt faster. In this article, we’ll cover the benefits of debt consolidation. You’ll see how to take control of your finances and how to ease the burden of past spending.
What does debt consolidation mean?
And how does debt consolidation work? Consolidating debt is taking several existing debts and rolling them into a new debt consolidation loan. Instead of making multiple debt payments to multiple lenders, you’ll only make one payment on a single loan.
To do that requires you to qualify for a loan amount large enough to cover all of your debt. Then, you’ll have to deal with only one payment a month. Debt consolidation loans are a strong choice when you’re creating a personal debt management plan.
The benefits of debt consolidation
The debt-consolidation process can lead to several possible benefits.
- When you consolidate your debt, you’ll deal with just one fixed monthly payment. That could make it easier to budget. And you might find that it’s easier to keep track of, too—helping you make monthly payments on time. You make one monthly payment with one interest rate. That’s better than figuring out each month which credit card to pay, and when, and how much to send.
- Consumers can shop for consolidation loans that have lower interest rates than many credit cards. That cuts down overall interest costs. In turn, that might help you pay down your credit card debt faster. Less money goes toward interest, and more money goes toward paying your existing debt balances.
- Consolidation loans might even boost credit scores. Installment loans are scored differently than revolving debt, which includes a credit card balance transfer. Consumers who don’t have an installment loan could improve their credit mix, and thus their credit scores, by adding one.
What to consider about debt consolidation
You can consolidate debts in several different ways. Before you make any financial decisions, study all the debt consolidation options available.
- Take a full inventory of your debt. List all balances, interest rates, and monthly payment amounts on one sheet of paper or on a digital spreadsheet. Total up the balances to see how much you owe. Then, figure out how much you would need to borrow.
- Look at your income and monthly expenses. Figure out the most you’ll be able to spend on a consolidation payment. Factor in payments on your previous debts. Can you apply some or all that money, or more, to your consolidated loan as well?
- Paying the minimum payments of the consolidation loan (compared to those of the total you were paying) also should free up funds. That extra could be applied to your new loan; nothing requires you to pay only the minimum payment. The more you put toward loan payments, the less you’ll likely pay in interest payments. And the quicker you’ll pay off the loan, too.
- When you’re getting a loan to consolidate debts, shop around and compare lenders. Choose one with good interest rates and terms that are right for you.
Types of debt and financial options
Common types of debt and obligations that are candidates for consolidation include:
- Major credit card debt
- Retail store credit cards and accounts
- Medical bills
- Home or car repair bills
- Personal loans and other previous loans
Any of these could be candidates for debt consolidation. Many folks consider consolidating their student loan payments, as well. Maybe you have private student loans or federal student loans. For some accounts, consolidation might help save on interest. For others, it might prevent late-payment fees if your budget is struggling to cover every payment due.
Ways to consolidate your debts
If you decide to try debt consolidation, a good starting point is to review your credit report. Get your free report at annualcreditreport.com. Make sure that all of the information is correct. Dispute any errors with the responsible credit bureaus. You want your credit score to be as high as possible to help with loan approvals and interest rate offers.
When you’re ready to move forward with your financing, here are some types of debt consolidation to consider:
- A bank or other financial institution for a debt consolidation loan or personal loan. This is a traditional choice, using straightforward loans for consolidation. For larger amounts, you might need to apply for a secured loan. That would involve providing collateral to secure the loan. The upside of using collateral is that the secured loans sometimes have better interest rates.
- A balance transfer credit card. This may be a good short-term solution, since their rates are often below those of typical loans. The catch is this: the balance transfer rate usually holds for a set number of months. Usually, they offer low rates for only 6 months to 2 years. After that introductory period, the interest rate will increase. You also must factor in any balance transfer fees, which often are 3% to 5%.
- A home equity loan or a home equity line of credit. Because it’s a secured loan, using your home as collateral, rates are often favorable. The repayment periods could be longer than you would find with other methods, reducing monthly payments. However, the loan amount could be limited by the amount of equity you have in your home.
- Borrow from a 401(k) or another retirement plan. There might be fees or penalties for early withdrawals, so consult a tax professional first.
You might also consider debt management programs. A program administrator would negotiate on your behalf with creditors on payoff terms. You make one payment to the service and they distribute payments to creditors for you. The service might negotiate a lower interest rate, lower payments, or a workable repayment period. A percentage of what you pay goes to the management service and not toward your debt. And sometimes it’s a substantial percentage, so read the details before proceeding.
Debt settlement or debt relief companies offer another option, but it has its drawbacks. Debt settlement companies work with your creditors to get them to settle for less than the full balance. You pay out less money, but the settlements are often reported to credit bureaus. That might damage your credit history and credit score. Also, these companies usually charge fees and upfront costs for their services. A nonprofit credit counseling agency might be a more affordable option.
The bottom line
A debt consolidation loan may help you save money and get your financial life back on track. Their lower interest rates, single monthly payment, and possible boost to your credit are all benefits to consider. Check out these other articles for more information designed to help you with your decision: