If you’re struggling to repay high-interest loans or credit card debt, you don’t need anyone to tell you how difficult interest charges make it to pay off what you owe.
But it’s often possible to lower your interest rate by taking out a personal loan to consolidate your debt. To find out if it’s a good option for you and to better understand the pros and cons of using a personal loan to consolidate debt, read on for four tips from financial experts.
1. Consolidating debt isn’t for everyone
Consolidating debt using a personal loan could reduce your interest rate and lower your monthly payments — but not everyone can or should take out a debt consolidation loan.
“Only do it if the terms are right for you,” advised Clint Haynes, a certified financial planner and founder of NextGen Wealth. Haynes identified three types of people who might benefit from debt consolidation:
- People who are looking to combine several loans into one account
- People who qualify for a lower interest rate
- People who are looking to pay off their loans over a shorter period of time
However, Haynes warned that you’ll need to make sure you can qualify for a loan with affordable monthly payments before going through with debt consolidation.
To qualify for a desirable consolidation loan, you’ll typically need a good credit score and proof of steady income. If you have poor credit and don’t earn much, you’ll likely need a cosigner to qualify.
There are serious consequences for missing payments on personal loans, so make sure you have control over your finances and room in your budget for loan repayment.
“Borrowers who are masters of cash flow and truly understand how money comes in and out of their lives would be in a good position to use these types of loans,” said Douglas Boneparth, a certified financial planner, financial advisor, and president of Bone Fide Wealth.
2. Don’t consolidate if you don’t have your spending under control
Financial experts identified two big dangers of using a loan to consolidate debt:
- Thinking you’ve solved your debt problems with the new loan
- Taking on new debt once you’ve consolidated your old accounts
“Transferring debt isn’t enough to get out from under debt,” said Laura Morganelli, a certified financial planner and financial advisor with Abacus Wealth Partners. When you take out a personal loan to repay your other debt, all you’ve done is move your debt around to take advantage of better repayment terms. It isn’t a substitute for a detailed plan that empowers you to take charge of your debt.
After you consolidate, create a strategy to repay your debt on schedule. If you’re serious about becoming debt-free, the debt snowball and debt avalanche methods are two good approaches to repayment.
You also need to make sure you’ve changed your spending habits. Once you’ve paid off your credit cards with a consolidation loan, you risk maxing out those cards again if you continue using them.
“Amassing credit card debt typically is an indicator that you’re living outside of your income,” Boneparth said. “Just because you’ve put the debt under control with a consolidation loan doesn’t mean you’ve changed your spending behaviors.”
Create a detailed budget and track your spending for a month or two to see if you can live by it. Once you’re sure you won’t amass credit card debt again, start looking into debt consolidation.
3. Don’t focus solely on monthly payments
Far too many people consolidate debt solely to lower their monthly payments.
“Sometimes we find a monthly payment may decrease due to debt consolidation, but the term of the loan is longer,” said Magdalena Johndrow, a certified fund specialist and associate financial advisor with Farmington River Financial Group. “This may result in actually paying more interest over time.”
So, instead of focusing on your monthly payments or interest rate alone, pay attention to your loan’s total cost.
“No one overlooks the interest rate, but a lot of people overlook the amount of time it takes to pay off the debt,” said Scott G. Eichler, an investment advisor representative and financial advisor at Newport Wealth Advisors. “Often, the real culprit of a lower payment is a longer term of repayment. Ultimately, while the interest is lower, the amount of money paid to the lender is greater.”
Use our personal loan calculator to determine a loan’s total cost and compare it to your current repayment plan. You also can compare the repayment timeline. “Typically, if the interest rate is lower and the length of time is the same or shorter than that of the high-interest debt, you should see some savings,” Johndrow said.
Eichler recommended another approach: Consolidate your debt but continue paying the same amount, even if the new loan has a lower minimum payment. “You can cut your payments, but don’t pay less,” he advised. “Get that debt paid off. Lowering the necessary payment means you can pay off your debt’s principal.”
4. Pay attention to the lender and loan terms
Finally, it’s important to shop around carefully before you borrow. “Not all lenders are the same,” said Morganelli. “Reaching out to multiple lenders is the best way to ensure you get the best rate possible.”
She also recommended reading the fine print to identify all loan costs and fees. “People tend to think it’s just the interest rate they need to be worried about, but often there are other fees lurking around the corner,” she warned.
“For example, some lenders may impose a prepayment penalty, which essentially means you’re penalized for paying off a loan earlier than anticipated,” she said. “Always ask to have all fees associated with the loan listed in a clear, concise manner.”
Should you use a personal loan to consolidate debt?
Bottom line: If you qualify for a loan with better terms and have a plan to get your spending and debt under control, you could save a lot of money by consolidating high-interest debt with a personal loan.
Our credit card consolidation calculator can help you figure out how much you’ll save, and our personal loan marketplace is a great place to look for personal loans. Hopefully, you’ll find a loan that works for you so you can get one step closer to becoming debt-free.
Interested in a personal loan?Here are the top personal loan lenders of 2018!
|Lender||APR Range||Loan Amount|
|1 Includes AutoPay discount. Important Disclosures for SoFi.
2 Includes AutoPay discount. Important Disclosures for Payoff.
3 Important Disclosures for FreedomPlus.
4 Important Disclosures for Citizens Bank.
Citizens Bank Disclosures
5 Important Disclosures for LendingPoint.
6 Important Disclosures for LendingClub.
All loans made by WebBank, Member FDIC. Your actual rate depends upon credit score, loan amount, loan term, and credit usage & history. The APR ranges from 6.16% to 35.89%. For example, you could receive a loan of $6,000 with an interest rate of 7.99% and a 5.00% origination fee of $300 for an APR of 11.51%. In this example, you will receive $5,700 and will make 36 monthly payments of $187.99. The total amount repayable will be $6,767.64. Your APR will be determined based on your credit at time of application. The origination fee ranges from 1% to 6% and the average origination fee is 5.49% as of Q1 2017. There is no down payment and there is never a prepayment penalty. Closing of your loan is contingent upon your agreement of all the required agreements and disclosures on the www.lendingclub.com website. All loans via LendingClub have a minimum repayment term of 36 months or longer.
7 Important Disclosures for Earnest.
8 Important Disclosures for Avant.
* The actual rate and loan amount that a customer qualifies for may vary based on credit determination and other factors. Funds are generally deposited via ACH for delivery next business day if approved by 4:30pm CT Monday-Friday. Avant branded credit products are issued by WebBank, member FDIC.
** Example: A $5,700 loan with an administration fee of 4.75% and an amount financed of $5,429.25, repayable in 36 monthly installments, would have an APR of 29.95% and monthly payments of $230.33
* Important Disclosures for Upgrade Bank.
Upgrade Bank Disclosures
** Accept your loan offer and your funds will be sent to your bank via ACH within one (1) business day of clearing necessary verifications. Availability of the funds is dependent on how quickly your bank processes this transaction. From the time of approval, funds should be available within four (4) business days.
|7.73% – 29.99%||$1,000 - $50,000||Visit Upstart|
|5.81% – 15.37%1||$5,000 - $100,000||Visit SoFi|
|6.87% – 35.97%*||$1,000 - $50,000||Visit Upgrade|
|8.00% – 25.00%2||$5,000 - $35,000||Visit Payoff|
|4.99% – 29.99%3||$10,000 - $35,000||Visit FreedomPlus|
|5.99% – 18.99%4||$5,000 - $50,000||Visit Citizens|
|15.49% – 34.49%5||$2,000 - $25,000||Visit LendingPoint|
|6.16% – 35.89%6||$1,000 - $40,000||Visit LendingClub|
|6.99% – 18.24%7||$5,000 - $75,000||Visit Earnest|
|9.95% – 35.99%8||$2,000 - $35,000||Visit Avant|