What Is Debt Consolidation, and Is It Right For You?
Carol Pope is a personal finance writer who has experience writing about auto, home and life insurance as well as auto loans and mortgage escrows. Before joining LendingTree, she was a full-time writer for Bankrate. Carol also spent more than a decade as a Geico insurance agent and earned her B.A. in English with a specialization in writing from the University of Michigan – Flint. When Carol isn’t writing, she enjoys running, gaming and growing food in her Florida garden.
Expertise: Personal finance, student loans, personal loans, insurance and debt
Education: University of Michigan – Flint
- Expertise: Personal finance, deposit and investment accounts, personal loans, Federal Reserve policy
- Education: University of Kansas
Jessica Sain-Baird is a managing editor at LendingTree. She assigns and edits articles that encourage financial literacy, including explainers, loan and account roundups, financial institution reviews and more.
Before joining LendingTree, Jessica spent over a decade as a writer, editor and content strategist at fast-paced settings including Columbia University and the Central Park Conservancy.
Jessica has a bachelor’s degree in journalism and a master’s degree in digital content strategy from the William Allen White School of Journalism and Mass Communications at the University of Kansas.
- Expertise: Copy editing, personal finance
- Education: Smith College, City University of New York Graduate School of Journalism
Xiomara Martinez-White is a copy editor at LendingTree and its associated companies, where she edits multiple personal finance verticals.
Previously, she was a copy editor at BDG Media and its flagship publication, Bustle, and first honed her copy editing craft as a fashion assistant with the International Herald Tribune, working in Paris under famed fashion editor Suzy Menkes. She has also held internships at publications such as Marie Claire, People.com and the Metro.
Martinez-White earned a B.A. in English Language & Literature at Smith College and an M.A. at the City University of New York Graduate School of Journalism, concentrating in Arts and Cultural Journalism. She also attended the University of Cape Town and CELSA Paris as a visiting student.
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Debt consolidation is the act of taking out new debt and using it to pay off multiple old debts. After consolidating, you’ll only have one bill to pay (hopefully at a lower interest rate).
While this strategy could be an excellent way to streamline your budget and save money, it doesn’t make sense for everyone. Here’s what you need to know about debt consolidation so you can decide if it’s right for you.
How debt consolidation works
It may seem counterintuitive to take out new debt to pay off old debt, but think of it this way: You’re not taking on any additional debt.
Rather, you’re taking out one form of debt that equals the amount of debt you’re already in — then, you use that new debt to pay off what you owe. After you’ve paid your old debt, you’ll only have one debt to pay (your consolidated debt).
Two popular ways to consolidate are taking out a debt consolidation loan or opening a 0% interest balance-transfer credit card.
Debt consolidation loan
A debt consolidation loan is a type of unsecured personal loan with fixed interest rates and repayment terms (which usually range from 12 to 60-plus months). Personal loans provide a lump sum of money, which, in the case of debt consolidation, you’ll use to pay off your existing debt.
If you have excellent credit, a debt consolidation loan may come with a lower APR than what you have on your current credit cards. In the third quarter of 2023, the average credit card interest rate was 24.37%. On the other hand, personal loan statistics from that same time period show that excellent-credit borrowers saw an average APR 18.35% — a savings of just over 6 percentage points between credit cards and personal loans.
If you take out a personal loan for debt consolidation, your lender may offer to pay off your creditors directly instead of disbursing the funds to you. Some lenders, like Achieve, will even give you an APR discount for taking this option.
Either way, you’ll make monthly payments until your loan is paid off, with your first installment due about 30 days after the lender releases the funds.
0% interest balance-transfer credit card
A balance transfer credit card is specifically for consolidating credit card debt. With this, you’ll transfer multiple credit card balances to the new balance transfer card, and then focus on paying off the one card. If you have good enough credit to qualify for a balance transfer credit card with 0% interest, you could save a significant amount of money.
Still, these types of credit cards aren’t without their downsides. One of them is the introductory period. During this time (which typically spans from six to 21 months), the credit card issuer won’t charge you interest. However, any balance you have left over after the introductory period will be subject to interest, as well as anything you charge to the card afterward.
Further, most credit card issuers charge a balance transfer fee between 3% and 5% for each transfer. If you have a lot of credit cards to consolidate, these fees could really add up.
Debt consolidation calculator
As with any financial strategy, debt consolidation isn’t beneficial for everyone. Use our calculator below to get an idea of what your new monthly payment would be if you consolidated.
Instead of rolling your debt into one payment, debt settlement involves negotiating with your creditors to get rid of your debt. Some creditors might allow you to pay a lump sum that’s less than what you owe, since they’d rather get some payment than no payment at all.
For some, debt settlement is a last-ditch resort when overwhelmed by bills they know they can’t pay. If you decide to go this route, be wary — debt settlement companies may offer to negotiate with your creditor on your behalf for a high fee, while others may be scams altogether.
Learn more about debt consolidation vs. debt settlement.
What to do before consolidating debt
Consolidating isn’t a decision you should take lightly. Before you sign on the dotted line, you should:
- Consider your spending and budget. Budgeting and money management are essential for understanding how you’ve acquired debt and how you can avoid it further.
- Negotiate with creditors. Before consolidating debt, explore if debt restructuring is an option for you. Debt restructuring is when you or a credit counselor works with your creditors to get you better terms on your existing debt.
- Compare multiple loan offers. If you take the first loan offered to you, you could be leaving money on the table through a high APR.
- Do the math. You should never take out a loan without first making sure you can stick to your repayment schedule.
- Make sure you’re dealing with reputable lenders. Personal loan scams exist, and some bad actors target those looking for debt consolidation loans, since those borrowers may be in a less-than-ideal financial situation.
When debt consolidation makes sense
Debt consolidation can be a powerful debt management tool, but it’s not right for everyone. If you have a strong enough credit profile to qualify for lower APRs than what you have on your current debt, consolidating could save you money. Or, if you’re having difficulty keeping due dates straight, consolidating could save you time.
Debt consolidation loan pros
Streamline repayment. Consolidation rolls multiple debts into one new one.
Could save money. If you have good-to-excellent credit, a debt consolidation loan could have a lower APR than what you have on your credit cards.
Fixed (or 0%) interest rate. Personal loans have fixed interest rates, while credit cards are variable, which can be risky in a tumultuous economy. Monthly credit card payments can also be hard to budget for since the amount due can go up or down as their interest rate fluctuates (and as you charge more on the card).
Flexible repayment options. Most lenders give you 12 to 60 months to may off your loan, with some terms extending to 84 or even 144 months. A shorter term means you’ll pay less interest over the life of your loan, but have a higher monthly payment. If it’s easier for you to manage a lower monthly payment, go for a longer term — just know that you’ll pay more total interest.
Might boost credit. Your FICO Score is based on a few factors, including your credit mix (which makes up for 10% of your score). If you have no other personal loans, a debt consolidation loan may improve your credit (assuming you make your payments on time and in full).
When debt consolidation may not be the best choice
You shouldn’t consolidate your debt if you aren’t ready to examine how you got into debt in the first place.
Debt consolidation may not be for you if you only owe a small-to-moderate amount of money to a few lenders. In that case, the debt avalanche or debt snowball methods likely make more sense.
Finally, if your credit score precludes you from qualifying for a favorable interest rate, you could end up paying more in interest after consolidating. You should also think twice if your old debt carries prepayment penalties (charges for paying your debt off early, which you’ll be doing by consolidating).
Debt consolidation loan cons
May not be advantageous (or available) to bad-credit borrowers. Although personal loan requirements vary between lenders, the lowest APRs are reserved for borrowers with the highest credit scores. If you have spotty credit, a debt consolidation loan may come with an APR that’s on par with what you’re already paying. And if your score is too low, you may have a hard time finding a loan at all.
Might have fees. Many lenders charge an origination fee, which typically ranges from 1% to 8% (and sometimes higher). This fee is deducted from your loan funds before the lender disburses it and depending on how much you’re borrowing, can be quite expensive.
Won’t fix problematic spending habits. As useful as it can be, a debt consolidation loan won’t help you get out of the hole if you don’t also budget to pay off debt. In truth, if you take out a consolidation loan and continue to spend on your credit cards, you’ll be worse off than where you started.
How to apply for a debt consolidation loan
Knowing how to apply for a debt consolidation loan can help make the process less intimidating. To apply, follow the steps below:
1. Review your financial situation
First, add up all the debt you have across all of your cards — this will determine the size of the loan you should apply for. In addition, take note of your APRs, as you’ll need to be sure that the APRs available to you on a debt consolidation loan will save you money.
Further, take time to check your credit score, review your credit reports and dispute credit report errors you may find. Knowing your credit score in advance will give you a better picture of what lenders you qualify for.
2. Prequalify
Although prequalifying for a personal loan doesn’t guarantee approval, it can help you see what APRs and loan terms you might get based on your basic financial information. Prequalification doesn’t affect your credit score and typically takes just a few minutes. It’s worth going through the process for several lenders, so you can choose the one with the most favorable terms.
3. Compare lenders
When you have a handful of prequalification offers in front of you, stack them against each other by reviewing each lender’s APRs, fees, repayment terms and borrowing limits.
4. Apply
When you formally apply for your loan, the lender will perform a hard credit pull and likely ask for documentation such as pay stubs. You may also need to show how much you owe and to which creditors.
5. Wait for a loan decision
Depending on the lender’s funding timeline, you could get same-day approval. For others, you may need to wait a few days. After approval, funds are usually available in another business day or two.
6. Use loan funds to pay off debt
Some lenders will deposit your loan into your checking account, while others will pay your creditors directly. If the lender gives you the funds directly, use them to pay off the debt you want to consolidate. Resist the temptation to spend them on unrelated expenses.
7. Enter repayment
Your first loan payment will generally be due about 30 days after your loan was disbursed. Always pay on time and in full to avoid damaging your credit (or falling back into debt).
Does debt consolidation hurt your credit?
Debt consolidation can affect your credit score in different ways at different times. You might see a drop (maybe even a significant one) shortly after you consolidate, but as long as you stick to your repayment schedule, a debt consolidation loan could actually improve your credit score.
When you formally apply for your loan, your score will get dinged by the hard credit pull. And while a consolidation loan serves an admirable purpose, in reality, it’s just another form of debt.
Moreover, if you’ve been paying your credit cards on time and close them after consolidation, you could negatively impact your length of credit history — a factor which makes up 15% of your FICO Score.
On the flip side, paying off your credit cards improves your credit utilization ratio, which is the amount of credit you have available compared to the amount you’re using. Your credit utilization ratio plays a significant role in your FICO Score (30%).
We also can’t forget payment history, which makes up 35% of your score. Making on-time payments on all of your debt (including your debt consolidation loan) will fare well for your credit.
To put it more succinctly, credit scores are complicated. We can take an educated guess at what your score will do after consolidation, but ultimately there’s no way to know for sure. Overall, if you’re okay with a temporary drop in your score and keep up with your payments, a debt consolidation loan can be a boon for your credit — and your pocketbook.