Budgeting, saving, and investing can be tricky when you’re paying off high-interest debt every month. Depending on how much money you owe, it can take you months, even years, to pay everything off fully. Often, the best way to settle up your existing debt is through consolidation.
What is Debt Consolidation?
Debt consolidation is when a person merges multiple debts into a single debt. Instead of paying off your credit cards, student loans, and medical debt separately, you’ll pay one minimum payment to a single lender each month. Usually, you’ll pay a lower interest rate after the merge.
While debt consolidation doesn’t eliminate your balance, it does make paying it off less stressful and expensive. After all, it’s much easier to manage one loan payment. This makes it less likely you’ll pay late or not pay at all, which could wreak havoc on your credit and trustworthiness.
How Can You Consolidate Your Debt?
There are plenty of ways to consolidate your debt, and your options depend on your credit and the type of debt incurred. For example, a person could get a credit card consolidation loan if they only have credit card debt, or they could get a general loan for all types of revolving debt.
Here are the 5 types of debt consolidation you’ll most likely use:
Debt Consolidation Loan
A personal loan with one fixed monthly payment, terms between 1 to 10 years, and allows you to consolidate up to $50,000 in debt.
Balance Transfer Credit Cards
A credit card that consolidates multiple high-interest credit card debt into a single credit card with a significantly lower interest rate.
Student Loan Refinancing
If you have student loans from the government, you can refinance them to receive a lower monthly payment. In return for refinancing, you’ll lose federal protections and benefits if you fall into financial hardship in the future.
Home Equity Loan
Typically referred to as a second mortgage, a home equity loan lets homeowners use up to 85% of their home’s equity to pay off other outstanding debt. The homeowner then repays their mortgage as usual but with an extended amortization.
Home Equity Line of Credit
Similar to a home equity loan, except a home equity line of credit acts as a revolving line of credit. Homeowners can withdraw funds (their equity) as needed, so they can draw out exactly what they need to pay off their debts.
If you’re trying to figure out how to consolidate your debt, the process is similar regardless of what option you choose. To start the consolidation process and save money in the process, get prequalified and compare loan offers first. This will ensure you’re getting the best deal possible.
Does Debt Consolidation Make Sense for You?
While net worth is on the rise in the US—so is debt. In 2021, total personal debt reached $14.96 trillion, so it’s clear to see why anyone would consider debt consolidation as a great payoff option. However, there are also some negatives to debt consolidation you should consider.
Debt consolidation is only effective if you’re able to stop using the credit cards or revolving loans you’ve paid off. Otherwise, there’s a possibility you’ll incur more debt. Be sure to close your credit cards, lines of credit, and anything else you may be tempted to use during repayment.
You should also look at your credit rating before going through with the process. A low credit score may mean you’ll pay a higher interest rate after consolidating, so there’s no point.
However, debt consolidation does make a lot of sense if your spending habits are under control and if your credit score is in the 700s. At the same time, if your debt is manageable without combining it into one loan, then you should speak to your bank about a repayment plan instead.