Juggling debts from multiple sources can make your finances feel like the world’s largest jigsaw puzzle.
Debt consolidation can help organize those debts and monthly payments into something much more manageable. By streamlining your debts from different credit cards or loan lenders into one, consolidated payment — especially if you score a lower interest rate in the process — you can jumpstart your debt payoff success.
You should be strategic about how you implement consolidation into your repayment plan, though. Choose a consolidation option that works with your credit score, fits your timeline and goals, and will help you establish long-lasting healthy financial habits.
Choosing the Right Time to Consolidate
Before you decide on a consolidation method, make sure you’re in the right stage of your debt payoff journey to best take advantage of the benefits. If you’re just starting out, your options may be limited.
“Oftentimes if someone has maxed out or their credit has been impacted, it can be difficult to qualify for many options,” says Katie Bossler, financial expert and quality assurance specialist at Greenpath Financial Wellness, a national nonprofit that provides financial counseling services. “Or the terms may not be favorable.”
That’s even more prevalent as lending standards change in response to economic downturn. Lenders and creditors are reducing their own risk by being more selective about who they offer these options to at all, and even more so about who qualifies for the most favorable terms.
If your credit isn’t great today, start paying down your balances using standard best practices: pay more than the minimum amount owed and start making extra payments when possible.
“As you pay debt down, your credit is likely going to increase as a result, so those options may become available or be more favorable,” Bossler says. Once you’re further along in the payoff process and have improved your score through factors like your positive payment history and low credit utilization, your consolidation options may improve.
You should also consider the types of debts you want to consolidate, and how you might approach your options differently. For instance, credit card balances and high-interest personal loans may be consolidated together, but you should generally only consolidate student loans with other student loans.
When you are ready to consolidate, here are a few options to consider:
Balance Transfer Credit Cards
Balance transfer cards offer introductory periods of zero percent interest, usually ranging between 12 and 18 months. After opening the card, you can transfer other high-interest debt balances for a fee, and pay them down throughout the intro period. Since you’re not accruing interest, each payment will go directly toward the principal.
Jordanne Wells of WiseMoneyWomen spent much of 2019 paying off $30,000 in credit card debt. She started by changing behaviors, such as adopting a strict budget, making regular extra payments, and automating her payment schedule.
But Wells, 34, says consolidating the balances from her highest-interest cards onto a single balance transfer card was a key part of eliminating her debts.
“Instead of having five or six different cards I was paying off, it was just one big card. I could just pummel it and get it done.”
But like everything else in 2020, balance transfers are getting complicated. Issuers not only pulled back many of their best balance transfer offers, but they’ve also tightened lending standards so the cards that are available are more difficult to obtain without excellent credit.
No matter which consolidation method you choose, make sure you’re saving money by moving your high-interest debts to an option with a lower APR. Over the course of your debt payoff, even a few percentage points in interest could amount to huge savings.
If you can qualify, always make sure you have a payoff plan in place before transferring your balance to a new credit card. If you’re unable to pay down a substantial portion of your balance during the intro period, you’ll only prolong your debt, and could even pay more in the long run. In fact, some issuers retroactively charge interest going back to the day you transferred your balance if you don’t pay the balance in full by the end of your introductory period.
Like a balance transfer, consolidating via personal loan can help simplify your debt payoff by combining your debts into one standard monthly payment.
The best part? You can drastically reduce your interest. While credit card interest rates average around 16%, personal loan rate averages are below 10%, according to the Federal Reserve (though terms vary, with the best rates going to those who have the best credit). And since personal loan rates are often fixed, you don’t have to worry about how your rate may fluctuate over time.
Prepare to be proactive with your debt payoff if you choose a personal loan, though. Depending on the length of your repayment period, the amount you owe each month could be more than the minimum payment you’re used to paying on your credit cards, even taking the lower interest rate into account.
Before taking out a new loan, always make sure the repayment timeline aligns with what you’re capable of paying. Also do your research to find a lender willing to extend an interest rate lower than your current APR; you can score as low as 6% interest via some of today’s best personal loan offerings.
If you’re a homeowner, you may be able to use your home’s equity — what the home is worth minus what you owe — as a consolidation tool, through a home equity loan or home equity line of credit (HELOC).
With a home equity loan, you can take out a lump sum, use it to pay off your high-interest debts, then pay the loan back in standard monthly installments. A home equity line of credit acts more like a credit card; you can borrow against the credit line as needed to pay off your other debts, then pay the HELOC back over time.
Like other consolidation methods, the best reason to consolidate through home equity is to score a lower interest rate (loans may be fixed, while HELOCs are often variable). Secured loans like these can also be more viable options for homeowners without great credit, as other consolidation methods usually require a good credit history.
But a home equity loan or HELOC can be risky. Because these are secured loans, using your home as collateral, you could risk foreclosure if you fail to pay. And since home equity loans are based on the value of your home, you could also risk owing more if your home value drops.
Debt Management Plan
If other consolidation options aren’t working, or you’re really in over your head with debt balances, look into working with a nonprofit credit counselor on a debt management plan. These plans are designed to consolidate and reduce your monthly payments — whether your debts come from credit cards, personal loans, or even collections debts.
Always seek out credible, nonprofit credit counseling agencies such as those endorsed by the National Foundation for Credit Counseling.
Credit counselors can help negotiate the terms of your debt, lowering your interest rate and reducing your minimum monthly payments, often based on your discretionary income and the payments you’re able to make each month. This might be an especially helpful option if you want to start paying down debt but you’re facing a period of financial hardship.
“When you’re on a debt management program, you have this monthly payment and you know that the debt’s going to be paid off in this amount of time,” Bossler says. Removing the pressure of organizing payments to different lenders on different dates throughout the month allows you to focus on the other details that will help you succeed in debt payoff, like streamlining your budget and reducing expenses.
Debt consolidation can be a great tool for paying down debt, but you should be smart about how you implement it. Take time to work through the different types of debts you have and how different consolidation options may best align with what you’re able to pay, your timeline, and your other financial goals.
“When you’re wading through all of this stuff, there’s not necessarily a right or wrong answer,” Bossler says. “It’s just weighing the options that are available to you. Really understand the terms, the interest rates, what you’re actually getting into before you enter into it.”