Debt consolidation is when you pay off existing debts with a new, single debt source such as a personal loan or balance transfer to a credit card, etc. By consolidating your debt, you pay off existing debts in full and focus on paying the debt back in installments (usually a monthly fee). Debt consolidation may help you save money, make the debt more manageable, and start you on your way to becoming debt-free.

How Does Debt Consolidation Work?

To consolidate debt, you roll your existing debt into one new credit account. You pay off your existing debt, then make payments on the single new debt. You can consolidate debt using credit cards, personal loans, and other consolidation loans. Debt consolidation works best when it costs less to pay off the new debt than to keep paying off your other debts at their current interest rates.

When Should I Consider Debt Consolidation?

It’s important to know when you should consider debt consolidation as an option. Some things to consider when deciding when to consolidate debt are:

  • The cost of interest to pay off the new debt compared to the cost to pay off your existing debt
  • How much debt you have to pay off
  • How long it will take you to pay off your consolidated debt

Consider the Cost of Interest

When you’re thinking about what debts to consolidate, it’s important to think how the cost of interest will add up.
Think about how much money it will cost to pay off your debts to figure out if it is financially smart to consolidate debt. Could you save money when you consolidate debt?

How Much Debt Do You Have?

Before you consolidate debt, you will need to know how much debt you have in order to calculate how much debt you want to consolidate.
First, add up all of your debts and determine which ones you want to consolidate. Once you know which debts you want to consolidate, you can decide what type of debt consolidation you will choose.

  • For example, if you owe $10,000 in credit card debt at an interest rate of 20% and pay off $375 each month over three years, you will pay approximately $3,336 in simple interest for the full three years. In total, you will have to pay about $13,336 over those 3 years to pay off this debt**.
  • If you apply for a simple-interest consolidation loan on a three-year term for the $10,000 and qualify for an interest rate of 13%, you could be paying a monthly payment of $336 and pay approximately $2,129 in interest***.
  • If you choose to consolidate with a simple-interest loan, you could pay about $12,129, with a lower monthly payment, and save more than $1,200 over 3 years.

When Will You Pay Off your Debt?

When you’re deciding to consolidate debt, you will also need to consider how long it will take to pay off your new debt. Consider important factors that impact your monthly expenses including your income, other monthly payments, and your financial goals. Determining how much money you can pay each month to pay off your consolidation loan can help you decide what terms you want.

Debt Consolidation FAQs

Sometimes it’s hard to figure out if debt consolidation is right for you. It’s important to understand your financial situation before making any decision about consolidating debt. Here are a few frequently asked questions about debt consolidation to help you decide if it’s right for you.

  1. Is it bad to consolidate debt?
    It isn’t necessarily bad to consolidate debt. Having debt isn’t always ideal, but consolidating debt can be a good decision. It’s important to do your research before deciding whether to consolidate debt, but it is something you can do to take control of your debt.
  2. Is credit consolidation the same as debt consolidation?
    Credit consolidation is another way to describe debt consolidation. Both are ways to describe the process of paying off debts with a new debt.
  3. What’s the difference between debt consolidation and debt settlement?
    Debt consolidation is not the same as debt settlement. In a debt settlement, you agree to the terms of a debt settlement company, which are usually only used when an account is very past due. Settling debt means that you and a creditor agree that you will pay less than the total amount owed. It’s something you do if there aren’t many financial options left. Debt consolidation, on the other hand, is a proactive step in eliminating debt. You consolidate debt in order to simplify your debt and to potentially save money. The FTC and Consumer Financial Protection Bureau have issued warnings about debt settlement scams. Always do your research before speaking with a debt settlement company or enrolling in a debt consolidation program.

Does Debt Consolidation Affect Your Credit?

When considering debt consolidation, it’s important to consider how it could affect your credit. Consolidating debt and credit cards can positively and negatively impact your credit. Debt consolidation could hurt your credit because of a potential hard credit inquiry and because a new credit account can de-age your credit. Debt consolidation could improve your credit because it could help you stay up-to-date on payments, help lower your credit utilization, and could diversify your mix of credit.

How to Improve Your Credit With Debt Consolidation

Even though debt consolidation could hurt your credit, debt consolidation could also help to improve your credit score.
Here are the potential positive impacts on your credit when you consolidate debt:

  • You pay off large debts and could lower your credit utilization, which shows you are less likely to near your credit limits
  • You stay up-to-date on payments, which could help improve your payment history over time
  • You may be diversifying your credit mix, which shows you have experience with different types of credit

How Can I Consolidate My Debt?

There are a lot of different types of debt that you can consolidate and there are a lot of different ways you can consolidate debt.
Common types of debt that you can consolidate include credit cards, medical bills, car, and home repair bills, personal loan debt, and retail credit cards.
Some of the most popular ways to consolidate debt include:

  • Personal loans
  • Credit cards via a balance transfer
  • Home equity loans, if you have equity in your home
  • Retirement loans, if you know you can pay it back

Many companies offer debt consolidation programs to help you consolidate your debt. Debt consolidation programs typically charge a fee for their services, but you can also consolidate debt on your own or with a financial advisor.

Want to learn a bit more about debt consolidation? Look no further: