3 Best Ways to Consolidate Debt: Which One is Right For You?

Is your debt getting too much to manage and the interest rate too much to bear? Try debt consolidation!

It’s the process of combining multiple debt obligations into a new loan with favorable terms and conditions, like a lower interest rate. The goal is to use the amount received from the new loan to pay off other debts.

Sounds easy? Because it is.

Debt consolidation makes sense when compiling debts gives you a lower interest rate. A lower interest rate means smaller payments; thus, extra money for you to either use to make bigger payments and pay down your debt faster or save or invest.

However, the strategy only works for some kinds of debt, like loans that aren’t tied to assets – credit card debt, student loans, and high-interest personal loans. 

If you’re struggling with secured debts, there are other debt-relief options like refinancing, loan term modification, and bankruptcy.

This strategy is also not right for all debt situations. For instance, if you have too much debt and can’t pay it off even with lower payments, you should look for other debt-relief options like debt settlement.

Now that you understand the basic concept of consolidation, let’s see the three best ways you can implement the strategy and which will suit you best.

Balance Transfer

Balance transfer means transferring the unpaid high-interest credit card balance, student loan, or personal loan to a new card offering a 0% interest period on balance transfer.

Upon the transfer, you’ll be able to save a significant amount on interest, however, given you take your repayments seriously.

Also, you must pay off your transferred balance before the 0% period ends, or the card will subject you to the customary high-interest rates for the rest of the payments.

Balance Transfer Eligibility

• 680 or higher credit score.
•  A history of on-time payments.
• The overall debt-to-income ratio should be at or below 43%.

Balance Transfer Pros & Cons

Pros

• You can save money on interest.
• You may get new rewards and perks.
• No risk of losing assets.

Cons

• 3% to 5% balance transfer fee.
• The APR will rise to a high percentage if you fail to pay off your new credit card debt during the promotional period.
• Your credit score will take a hit as the creditor will make a hard pull on your credit report.

Is Balance Transfer Right for You?

If you need months to pay off high-interest debt and your credit is good enough to get a card with a 0% introductory APR on balance transfers, go for it.

However, if you have a high amount of debt, say $7000 or more, you likely won’t be able to transfer the debt to a balance transfer card as the amount may be more than the credit limit.

In that case, it’s best to take a debt consolidation loan or personal loan, as it comes with higher loan limits.

A balance transfer isn’t necessary if your debt is low and you can pay off the amount in three months or sooner.

Best Balance Transfer Credit Cards

1. Wells Fargo Reflect Card – Provides the longest 0% period for transfers and purchases.
2. Discover it Balance Transfer – Provides a long 0% transfer period plus bonus cashback.
3. Citi Simplicity Card – Best for a long 0% period on transfers plus no late fees.
4. Citi Double Cash Card – Best for a long 0% transfer period plus flat-rate cashback.
5. U.S. Bank Visa Platinum Card – Best for Long 0% period for transfers and purchases.

Debt Consolidation Loan

Debt consolidation loans are fixed-rate installment loans, meaning the interest rate never changes, and you can make one predictable monthly payment.

Hence, if you take out this loan to consolidate your multiple debts, you’ll be able to manage your obligation easily.

Debt Consolidation Loan Eligibility

•  Shouldn’t be involved in foreclosure or bankruptcy proceedings.
• 650 or above credit score.
• The debt-to-income ratio should be at or below 45 percent.

Debt Consolidation Loan Pros & Cons

Pros

• It has a fixed interest rate.
• It is not secured, so a creditor can’t take anything from you if you don’t pay on time.

Cons

• Only people with good credit can get the most out of this option.
• If your credit score is fair to bad, you might not be able to qualify or may qualify with a high-interest rate.
• You’ll need to pay 1% to 5% origination fees; sometimes, it can be as much as 10%.

Is Debt Consolidation Loan Right for You?

You can use a debt consolidation loan if you have a large debt involving credit cards, other personal loans, or medical debt and a good to excellent credit score.

However, suppose you have a fair or bad credit score. In that case, a debt consolidation loan won’t do you much favor (unless you want to pay off existing payday loans) as you likely won’t qualify for a favorable interest rate.

In that case, your next option will be HELOC or a home equity loan.

Best Debt Consolidation Loan Providers

1. SoFi – No fees.
2. Upstart – Best for fair/average credit.
3. Prosper – Good for joint applicants.
4. LightStream – Best option for good to excellent credit.

Home Equity Loan or HELOC

You can use this debt consolidation option if you have enough equity and a good credit history.

This type of loan is backed by your home equity, which is the difference between the market value of your house and how much you still owe on your mortgage.

As this is a secured loan, it generally offers lower interest rates than unsecured loans, which can help you save more on interest charges.

There are two ways you can borrow the money – home equity loans, which give you a lump sum of money at a fixed rate, and HELOCs, which give you a credit line to draw from at a variable rate.

Both act as second mortgages, which means you’ll add an additional monthly payment to your plate.

Home Equity Loan or HELOC Eligibility

• Must have 15 percent to 20 percent equity in your home.
• Credit score should be in the mid-600s (although some creditors accept credit scores of 620 or less)
• The DTI should be 43% or lower.
• Must have sufficient income to repay the loan.
• Must have a reliable loan repayment history.

Home Equity Loan or HELOC Pros & Cons

Pros

• You’ll get a significantly lower monthly interest rate than a debt consolidation loan.
• Your monthly payments will be fixed.
• You won’t need a high credit score to get a low-interest-rate loan.

Cons

• You may lose your home if you fail to make payments.
• To qualify, you must prove you have enough income to repay your borrowed money.
• Equity loans and HELOCs require additional fees and costs. Occasionally lenders may waive these fees.

Is Home Equity Loan or HELOC Right for You?

A home equity loan or HELOC is a good option if your financial situation doesn’t suit the other two ways.

But remember, for this secured loan, you’ll need a significant amount of equity in your home and should be confident that you will be able to make the monthly payments.

If you aren’t confident about your finances, avoiding this option is best, as you could lose your home to foreclosure.

Additionally, if you already have a high level of debt, taking on a home equity loan could increase your overall debt burden and make it more challenging to pay off your debts in the future.

So before deciding, carefully review your financial situation and consider all of your options.

Best Home Equity Loans or HELOCs for Consolidation

1. Discover – Good for low fees.
2. Flagstar – Good for large HELOCs.
3. Truist – Best for fixed-rate HELOC.
4. U.S. Bank – Good for borrowers with good credit.
5. Connexus Credit Union – Best introductory rates.

Bottom Line

Other than the above three options, there are more ways to consolidate your debt, like a peer-to-peer online loan, retirement account loan, borrowing from friends and family, and cash-out auto refinance. However, these options aren’t as popular.

There’s also another option – a debt management plan. If you don’t want to take another loan, you can go this way and work with a debt relief agency to lower the interest rate on credit card debt and develop an affordable single monthly payment plan.

All debt consolidation options have advantages and disadvantages; the right choice will depend on your specific financial situation and goals.

So, consider your current debts, the amount needed to pay them off, your ability to repay them, your credit score, and your overall financial situation.

Choose the option that provides peace of mind and leaves you feeling comfortable that you can afford the payments.

It may be helpful to consult a financial advisor or a credit counselor to get personalized advice on the best option for your needs.

You can also work with a debt consolidation company to make the process easier if the amounts are big enough to make their fee worth it. If you have small debt, you might be better off consolidating it on your own.