Key Takeaways:

Debt consolidation loans are available in many forms, but they share the common goal of helping you pay off your debts faster. Learn more about the different options available so you can find a solution that’s right for your financial situation.

A debt consolidation loan is perhaps the first option people consider when they are facing a debt problem. 

When dealing with high-interest credit card debt or payday loans, debt consolidation can make repayments easier with a single monthly payment and a lower interest rate.

With an average consumer of $101,915 in 2022 and a staggering inflation rate of 6.04% in February 2023, more people in the U.S. are finding it challenging to manage their finances.

Paying off your accumulated debt with a strategy that works for you can help you improve your financial well-being.  

Debt consolidation loans can help you in a number of different ways. Learn more about the benefits, risks, and options available so you can make an informed decision if this is the right debt relief program for you.

What Is a Debt Consolidation Loan?

A debt consolidation loan is a repayment strategy that allows you to combine multiple debts into one

Once you are approved for a loan by a credit union or a bank, you can use it to merge your debts into a single loan. You’ll then be left with a single loan payment with a fixed interest rate.

In most cases, debt consolidation can be used to pay off high-interest, unsecured debts such as payday loans and credit cards.

Lenders that offer consolidation loans for secured debts, such as auto loans and mortgages, are hard to find.

Secured loans also typically have lower rates, so including them in a consolidation loan wouldn’t make financial sense.

How Debt Consolidation Loans Work

You can combine old debts into a lower-interest loan in several ways, such as with a new credit card, home equity loan, or a personal loan. You can then pay off the smaller loans with the new loan.

When you apply for a loan, your financial institution may run a hard credit check with the credit bureaus. This will cause a temporary and small dip in your credit scores. So be careful when trying to apply or get approved for a consolidation loan. Multiple hard credit pulls cause damage, so don’t just keep applying for new loans. If you want to keep looking for a consolidation loan that you might qualify for, make sure to inquire whether the lender would perform a soft or hard pull. To pre-qualify you, any good lender will begin with a soft pull. Then, if you appear to be a good candidate, they will conduct a hard pull.

If you continue to pay your installments on time, your credit report will not be negatively impacted. 

Borrowers must also provide documents to prove their creditworthiness and debt-to-income ratio. For example, you may need to provide statements of the loans or credit cards you want to pay off, a letter of employment, and income proof for eligibility.   

If you are using a balance transfer credit card to consolidate multiple credit card balances, you can transfer the outstanding balances to your new one. Many of these credit cards offer 0% APR for a fixed period of time.

With debt consolidation, there is a possibility of lower interest rates and monthly payments. With fewer due dates to keep track of, it also simplifies your financial life. 

Why Debt Consolidation Loans Can Get You Out of Debt

A debt consolidation loan can get you out of debt in a number of ways: 

  • It makes repayments easier by combining multiple debts into a single monthly payment.
  • The best debt consolidation loans will offer you the lowest rates. This will allow you to save a considerable amount of money that you would otherwise have to pay.
  • Depending on your APR and loan term, it may be faster for you to pay off your debts with a debt consolidation loan. Instead of making minimum payments, a fixed monthly payment can help with earlier payoff.

There have been nine interest hikes since March 2022. The average credit card APR is 24.15% right now. With a debt consolidation loan at a lower APR of 10%, for example, there is a potential to save thousands of dollars in interest, making it easier for you to get out of debt.

Pros and Cons of Consolidating Debt with a Loan

Here’s a quick look at the pros and cons of debt consolidation loans. 

Pros

  • Single monthly payment. You won’t have to keep track of multiple accounts with different due dates.
  • Lower interest rate. If you do your due diligence and compare your options, you can find a debt consolidation loan at a much lower interest rate.
  • The lower interest rate means that you’ll be paying more toward the principal. This allows you to pay off your debt faster.

Cons

  • You’ll need a good credit rating to be approved for lower interest rates. If you have bad credit, you’ll likely pay a higher interest rate or may be denied a loan.
  • Additional costs may apply, such as loan origination fees, closing costs, late fees, and annual fees. Ensure you are fully aware of the total cost of the loan before you sign anything.
  • It can lead you into more debt if you continue using the paid-off accounts after clearing the balance. In addition to the installment for the debt consolidation loan, you’ll have more debt to pay.

Types of Debt Consolidation Loans

There are several debt consolidation loan options to choose from based on your preferences, eligibility, and requirements. 

Home Equity Loans

If you own a home and have built up equity, you may be eligible for a home equity line of credit (HELOC) or a home equity loan. 

This is a secured loan where your home serves as collateral. 

Typically, home equity loans have an interest rate of 6.99% to 8.01%, which is way below the interest rates for credit cards and other unsecured debt.

It is important to note that home equity loans are secured loans. This means that if you default on your loan, there is a risk of foreclosure

Personal Loans

Personal loans from banks and financial institutions are unsecured loans.

The loan amount and the annual percentage rate that you are approved for will depend on your credit ratings and other factors. Once approved, you can use the loan amount to pay off your debts. You can then repay the loan amount through monthly payments at a fixed rate.

The average interest rate for personal loans is 10.82%, but it can be lower or higher based on your credit profile. This is still much lower than credit cards and other high-interest debt, so personal loans can be ideal for debt consolidation

Many lenders also offer personal loans specifically for debt consolidation, where they make direct payments to your lenders. 

Credit Cards

Although it sounds counterintuitive, applying for a new low-interest-rate credit card can sometimes help you pay off your existing credit card debt.

Many credit card issuers offer a 0% balance transfer credit card for those with excellent credit history. You can transfer your existing debts to the new card. 

The introductory period for the 0% APR typically lasts from six months to two years, after which the interest rate can be quite high. 

Choose this option only if you are sure that you will be able to pay off your entire balance within that introductory period. There may also be an initial balance transfer fee based on the amount of balance you are transferring.

Student Loan Consolidation

The federal government offers many student loan consolidation options for those with student loans. If you have federal student loans such as FFEL Program Loans and Direct Loans, you may be eligible for consolidation.

Consolidating your student loans can provide you with a longer repayment period, resulting in lower monthly payments. This also means that you may end up more in interest over the term of your consolidation loan.

How to Get a Debt Consolidation Loan

Although the application process may vary from lender to lender, here are the basic steps involved in getting a debt consolidation loan:

  • Compare lenders based on features such as eligibility requirements, prepayment penalty, repayment terms, minimum loan amounts, and APR ranges.
  • Pick the best lenders and fill out the online applications for pre-approval. You’ll need to offer details such as name, contact information, and employment.
  • Compare different loan offers and choose the best quote.
  • Submit the required documents online or in person. This will help the bank verify your identity and income.
  • In most cases, loan approvals only take one business day. You’ll receive a loan offer once approved. Review the documents carefully before signing the contract.

Your lender will then transfer the loan funds to your bank account the next business day. Use these funds to pay off your creditors. Set up autopay and make monthly payments to repay your loan. 

What Are the Risks of a Debt Consolidation Loan?

In some cases consolidating your debt can lead you to pay more than your original debt in the long run.

This is particularly true if you continue to use your credit cards after you clear off the balances. In this situation, you’ll continue to accumulate more debt while you’re trying to clear off your current debt.

The debt consolidation industry is also rife with scams that offer debt relief but fail to deliver on their promises. Don’t sign up for any debt relief programs without doing your due diligence.

Other Debt Relief Options

If debt consolidation is not right for you, there are many other debt-relief options available to choose from.

Debt Management

Debt management plans are offered by many nonprofit and for-profit debt relief companies. Once you enroll your eligible debts in the program, you’ll have to make only a single payment each month. 

You’ll also benefit from lower interest rates that a counselor can negotiate for you.

Debt management does not involve taking out a new credit card or loan, so it is a good solution for those with a low credit score.

Debt Settlement

If you have over $10,000 in unsecured debt and are finding it challenging to pay it off, consider debt settlement. This debt solution involves negotiating with your lenders to settle your account for less than what you currently owe.

A new savings account will be set up for you. You can start contributing to this new account and use the lump sum to settle your debt.  

Credit Counseling

If you simply need some guidance about your finances and debt, a credit counseling agency can help. A credit counselor can analyze your budget, debt, and finances and help you find a debt relief program that works for your financial situation.

If you have multiple debts at predatory interest rates, a debt consolidation loan can help you pay off your debts faster and save money. 

The sooner you start your debt repayment journey, the sooner you’ll be free from the burden of debt.

TurboDebt can help you take your first step toward a debt-free life. Our knowledgeable debt relief professionals can provide consultations, counseling, and strategic planning services to help you find the right debt solution for your financial situation.

Get in touch with us today for a free consultation. See why thousands of satisfied clients recommend our debt relief services.