Readers also ask. Read about how to tackle credit card debt. A personal loan allows you to pay off your creditors yourself, or you can use a lender that sends money straight to your creditors.
Read about the steps required to get a personal loan. Debt consolidation can help your credit if you make on-time payments or consolidating shrinks your credit card balances. Your credit may be hurt if you run up credit card balances again, close most or all of your remaining cards, or miss a payment on your debt consolidation loan. Learn more about how debt consolidation affects your credit score.
Try a do-it-yourself debt payoff method instead, such as the debt snowball or debt avalanche. Sign up with NerdWallet to see your debt breakdown and upcoming payments all in one place. Sign up to link and track everything from cards to mortgages in one place.
Get started. Sometimes you have to pay to take out a personal loan. Depending upon your lender, you could end up owing application fees, origination fees or prepayment penalties if you pay off your loan early. These fees sometimes make consolidating your debt more costly than just continuing to pay back your current lenders. Some personal loans are secured personal loans. With a secured loan, certain assets will act as collateral to guarantee the loan.
When you pay off credit cards using the proceeds of a personal loan, you free up your line of credit. Consolidating debt with a personal loan can be a good idea if you can get a new loan with favorable terms and a lower interest rate than current debt. Whether you can qualify for a consolidation loan depends on your credit scores, income and other financial factors. If the conditions are right, a debt consolidation loan can be a good tool to help you become debt free faster.
In purely financial terms, this makes an individual better off. There are some concerns in the behavioral realm. Often consolidation lowers monthly payments but extends the length of the loan. If individuals are anchored on this monthly payment amount they may feel they have more available to spend or more opportunities to take on debt than before, even though their personal wealth levels have not changed that much. Further, my research suggests there is a motivational benefit in paying off a loan on the way to paying off all debt.
The first is the kind you describe, where you apply for a personal loan, preferably one with a relatively low interest rate, and then use the money from that loan to pay off all your credit card balances at once. Once all of your other accounts are paid in full, there is only one payment to make every month — the one to the new lender. Since the interest rate on a personal loan is often considerably lower than on a credit card, and the repayment term potentially much longer, the consolidated payment may be much lower, as you indicated.
If you are struggling to keep up with your monthly payments, consolidating your debt in this way can certainly help alleviate financial stress. It can also make it less likely that you will fall behind on your payments and risk harming your credit. For these reasons, taking out a personal loan to consolidate higher interest debt can often be very beneficial. Keep in mind that even though the interest rate may be lower with a personal loan, you could end up paying more in interest over time because the repayment terms are longer.
Once you are in a position to do so, an option to reduce that cost is to use the money you will be saving to pay extra on your loan each month and pay the loan off sooner, thereby saving some money on interest over the course of the loan.
The second type of debt consolidation you may hear about are debt management plans offered by debt settlement companies. With these programs, the debt settlement company may be able to secure lower monthly payments with your creditors by negotiating a reduced balance on your accounts.
You then make one "consolidated" payment to the debt settlement company each month, and in turn the company makes payments to each of your creditors on your behalf. Once an account is included in this type of program, the creditor will close the account. Closing your credit cards will cause your credit utilization rate to increase, which can hurt credit scores.
The creditor may also add a statement to the account that indicates the payments are being managed by a debt consolidation company.
This statement may be viewed negatively by lenders who manually review your report. Programs like this may lower your monthly bills, but because you are not re-paying the full amount owed on your accounts, your creditors will likely report those accounts as "settled" or "settled in full for less than the full balance.
Even though the debt consolidation company will be making payments on your behalf, you will still be responsible for ensuring those payments are made to your creditors on time. To ensure you get the most competitive rate possible, shop around and focus on lenders that offer a personal loan prequalification process.
Remember, though, that some types of debt come with higher interest rates than others. For example, credit cards generally have higher rates than student loans. Consolidating multiple debts with a single personal loan can result in a rate that is lower than some of your debts but higher than others.
When consolidating debt, your overall monthly payment is likely to decrease because future payments are spread out over a new and, perhaps extended, loan term. While this can be advantageous from a monthly budgeting standpoint, it means that you could pay more over the life of the loan, even with a lower interest rate. Applying for a new loan may result in a temporary dip in your credit score because of the hard credit inquiry.
However, debt consolidation can also improve your score in a number of ways. For example, paying off revolving lines of credit, like credit cards, can reduce the credit utilization rate reflected in your credit report. Making consistent, on-time payments—and, ultimately, paying off the loan—can also improve your score over time.
A debt consolidation loan or balance transfer credit card may seem like a good way to streamline debt payoff. That said, there are some risks and disadvantages associated with this strategy. Taking out a debt consolidation loan may involve additional fees like origination fees , balance transfer fees, closing costs and annual fees.
When shopping for a lender, make sure you understand the true cost of each debt consolidation loan before signing on the dotted line. If you qualify for a lower interest rate, debt consolidation can be a smart decision. This may mean paying origination fees, plus more in interest over the life of the loan. Even if your interest rate goes down when consolidating, you could still pay more in interest over the life of the new loan. When you consolidate debt, the repayment timeline starts from day one and may extend as long as seven years.
To sidestep this issue, budget for monthly payments that exceed the minimum loan payment. This way, you can take advantage of the benefits of a debt consolidation loan while avoiding the added interest.
Missing payments on a debt consolidation loan—or any loan—can cause major damage to your credit score; it may also subject you to added fees. To avoid this, review your budget to ensure you can comfortably cover the new payment.
Once you consolidate your debts, take advantage of autopay or any other tools that can help you avoid missed payments. And, if you think you may miss an upcoming payment, communicate that to your lender as soon as possible. Similarly, paying off credit cards and other lines of credit with a debt consolidation loan may create the illusion of having more money than you actually have. Consider consolidating your debt if you have:.
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