What’s the Best Way to Consolidate Debt?

If you carry more than one balance, you might need to think about more than how much you owe.

Multiple debts might have different interest rates, payment dates or loan terms. It can be hard to manage different credit cards, loans or even big expenses, such as medical debts.

Debt consolidation can simplify the situation and, in some cases, reduce borrowing costs. Here’s how.

What is debt consolidation?

Debt consolidation replaces several debts with a single loan or credit line. The goal is typically to lower your interest rate, but debt consolidation can also be used to improve loan terms or simplify repayment.

How does debt consolidation work?

Debt consolidation combines several balances into one balance. Borrowers typically get a new loan, credit card or line of credit to pay off their existing debt. Then, they repay the new loan.

Debt consolidation makes the most sense when you can replace expensive debt with cheaper debt. Some common examples:

• You improved your credit profile or credit score and now qualify for lower-interest options.
• You qualify for a promotional rate that temporarily reduces borrowing costs.
• You can get a lower interest rate with a secured loan.

What are the main ways to consolidate debt?

Some of the most common ways to consolidate debt are with a personal loan, balance transfer credit card or home equity line of credit.

The goal of debt consolidation is to lower your total borrowing costs. This is more than comparing interest rates. You should also consider any fees and repayment terms.

Personal loan

A personal loan is a fixed-term loan that you can use to pay off existing balances. You receive cash, pay off your previous debts and repay the loan over a set period in fixed installments so that the debt is paid off in a fixed period of time.

Personal loans can be a good choice if you qualify for a lower interest rate than your current debts.

Balance transfer credit card

A balance transfer credit card is a specialized credit card used to consolidate debts from other credit cards. Balance transfer cards often have a temporarily low “teaser” rate, such as a promotional 0% APR period, to help borrowers save when they move their existing credit card debt.

The lower interest rate reduces interest costs in the short term. You’ll need to pay down the balance before the promotional period ends to avoid higher interest rates. Make sure to understand the terms of these programs. Your rate can jump up with a penalty rate, which can be as high as 29.99% APR on some cards, if you fail to pay on time.

Home equity line of credit

A home equity line of credit or HELOC is secured by the home equity a homeowner has built in their home. Because it is a type of secured debt, lenders typically offer lower interest rates, particularly when compared to credit cards, personal loans or other unsecured debt.

A qualifying homeowner can use a HELOC to consolidate high-interest debt into a lower-rate credit line.

How do I know if debt consolidation will help?

It can be helpful to take an inventory of your current debts. List each balance and its APR. Credit cards, personal loans and medical debt typically carry different interest rates.

Then, add up the balances of your debt. This will be how much your new debt consolidation loan needs to be.

The APRs of your existing debt will help you understand if debt consolidation makes sense for you. If a new loan doesn’t have a lower APR than the average of your current debts, you likely won’t save money with the new loan.

The bottom line

Debt consolidation can help borrowers replace their expensive debt with cheaper debt. The best options have lower APRs, which may be available if you qualify for a more competitive loan, temporary promotional rate or can move your debt from an unsecured to secured loan.

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This post is for informational purposes only and does not provide any financial, investment or tax advice. The information presented may not be suitable for your individual circumstances. Before making any financial decisions, consider consulting a qualified professional who can provide advice based on your specific situation.