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Your all-in-one guide to using personal loans to consolidate debt.
When you’re already in debt, taking out another loan may be the last thing on your mind. That makes total sense. Borrowing is what got you into this mess in the first place, right? However, debt consolidation loans were specifically designed to assist people who need debt relief. This guide will teach you what you need to know before you begin sifting through the wide variety of consolidation loans that are on the market today.
You consolidate your debt when you roll multiple debts into one sum that requires one monthly payment. You can do this in a couple of different ways.
A debt consolidation loan is a personal loan that’s specifically used to combine multiple debts into a single monthly payment. You take out a loan and use the funds you receive to pay off multiple debts, usually of the same type. This offers several advantages:
Credit card debt consolidation loans are the most common. They offer low interest rates and fixed monthly payments that are often lower than what you pay now. Reduced interest charges mean you can often get out of debt faster, even though you pay less each month.
A consolidation loan for credit card debt can also be used to consolidate other types of unsecured debt. This includes:
There are consolidation loans for student loan debt. However, you generally must consolidate student loans separate from other types of debt.
Debt consolidation loans and balance transfer credit cards are both solutions for paying off your debt. There are some key differences between the two that you should keep in mind before picking one or the other.
First, a balance transfer is a type of credit card, not a loan. You transfer all of your current credit card debts onto the balance transfer card, which usually has 0% APR for a certain period of time that’s generally less than two years. This means you have an interest-free period to pay off all of your credit card debt.
A debt consolidation loan is much more structured. Unlike a balance transfer that allows you to charge new purchases on the card and decide for yourself how much you will pay per month, debt consolidation loans require a specific amount. This guarantees the amount of time it will take to pay off your debt.
To qualify for a debt consolidation loan, you must be:
These requirements are the absolute minimum. There are more factors, such as your credit score and your debt amount, that will determine rates and terms.
This chart from Value Penguin shows you the kind of debt consolidation loan rates you can expect for different levels of credit scores. Keep in mind that other fees (like the common origination fees) may raise the amount you owe for your loan.
|Credit Score||Average Loan Rate|
|Excellent (720 – 850)||4.52% – 20.57%|
|Good (680 – 719)||6.67% – 28.33%|
|Average or Fair (640 – 679)||7.05% – 30.32%|
|Poor (300* – 639)||15.06% – 36.00%|
*Many lenders require a minimum credit score of 580 or higher. Borrowers with scores under 600 may find it difficult to qualify for a personal loan without a cosigner or collateral; your results may vary by lender.
This depends on your financial situation, but it many cases, they can be the best solution. If you have multiple debts to repay and your budget is spread too thin, consolidation loans can be extremely beneficial.
If your total amount of credit card debt is over $5,000 and you have a credit score that will qualify you for a reasonable interest rate, a debt consolidation loan may be your best option for debt relief. You roll your debts into a single monthly payment and make debt repayment more efficient. As a result, you can pay less and still get out of debt faster. You save both money and time.
When used correctly, debt consolidation loans should improve your credit rather than hurt your credit. A consolidation loan pays off your balances in-full, so it’s good for your credit history. It also improves your credit utilization ratio – the ratio that measures credit use versus total credit limit. These are the two biggest factors used to calculate credit score. So, a consolidation loan can be extremely beneficial for your credit.
However, if you consolidate in the wrong circumstances and can’t keep up with the payments, default will hurt your credit. You can also damage your score if you don’t keep up with the minimum payment requirements on your debts during underwriting. Before you receive loan approval, make sure to meet all assigned payments on your debts; otherwise, you can create missed payments in your credit history
Private student loan debt consolidation is also bad if you ever think you may need a federal relief option or loan forgiveness.
Yes, but bad credit is one of the factors that may make a consolidation loan less beneficial. For Federal Direct consolidation loans, credit score is not a factor for qualification. So, even if you have a 500 FICO score you can consolidate student loan debt, as long as it originated from a federal program.
For credit card debt and private student loan consolidation, your credit score doesn’t just impact loan approval. It determines the interest rate you qualify to receive on the new loan. If the rate is too high, it doesn’t provide the cost savings you need. The monthly payments will be higher, as well.
Always make sure to calculate loan costs carefully when looking for debt solutions. Consider monthly payment and total interest charges; weigh this against what you’re paying now. If the loan doesn’t offer monthly savings or reduce your total interest charges, you may be better off with another solution.
Article last modified on July 3, 2019. Published by Debt.com, LLC