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Debt consolidation rolls multiple debts, typically high-interest debt such as credit card bills, into a single payment. Debt consolidation might be a good idea for you if you can get a lower interest rate than you're currently paying. That will help you reduce your total debt and reorganize it so you can pay it off faster.
If you’re dealing with a manageable amount of debt and just want to reorganize multiple bills with different interest rates, payments and due dates, debt consolidation is a sound approach you can tackle on your own.
How to consolidate your debt
There are two primary ways to consolidate debt, both of which concentrate your debt payments into one monthly bill. The best option for you will depend on your credit score and profile, as well as your debt-to-income ratio.
Get a 0% interest, balance-transfer credit card: Transfer debt onto this card and then be sure to pay it off during the promotional period to get the interest-rate break. You will likely need good or excellent credit (690 or higher) to qualify.
Get a fixed-rate debt consolidation loan: Use the money from the loan to pay off your debt, then pay back the loan in installments over a set term. You can qualify for a loan if you have bad or fair credit (689 or below), but borrowers with higher scores will likely qualify for the lowest interest rates.
Two additional ways to consolidate debt are taking out a home equity loan or borrowing from your retirement savings with a 401(k) loan. However, these two options involve risk — to your home or your retirement.
Use the calculator below to see whether or not it makes sense for you to consolidate.
When debt consolidation is a smart move
Success with a consolidation strategy requires the following:
Your monthly debt payments (including your rent or mortgage) don’t exceed 50% of your monthly gross income.
Your credit is good enough to qualify for a credit card with a 0% interest period or low-interest debt consolidation loan.
Your cash flow consistently covers payments toward your debt.
If you choose a consolidation loan, you can pay it off within five years.
Here’s an example when consolidation makes sense: Say you have two or three credit cards with interest rates ranging from 11.21% to 25.7%, and your credit is good. You might qualify for an unsecured debt consolidation loan at 7.99% — a significantly lower interest rate. With less interest accruing each month, you'll make quicker progress toward being debt-free.
For many people, consolidation reveals a light at the end of the tunnel. If you take a loan with a three-year term, you know it will be paid off in three years — assuming you make your payments on time and manage your spending. Conversely, making minimum payments on credit cards could mean months or years before they’re paid off, all while accruing more interest than the initial principal.
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Consolidate your debt if you can get a better interest rate and/or it will help you make payments on time. Just make sure this consolidation is part of a larger plan to get out of debt and you don’t run up new balances on the cards you’ve consolidated. Read about how to tackle credit card debt.
How does a debt consolidation loan work?
A personal loan allows you to pay off your creditors yourself, or you can use a lender that sends money straight to your creditors. Read about the steps required to get a personal loan.
Do debt consolidation loans hurt your credit?
Debt consolidation can help your credit if you make on-time payments or if consolidating shrinks your credit card balances. Your credit may be hurt if you run up credit card balances again, close most or all of your remaining cards, or miss a payment on your debt consolidation loan. Learn more about how debt consolidation affects your credit score.
When debt consolidation isn't worth it
Consolidation isn’t a cure-all for all of your debt problems. You will still need to take steps such as seeking low-cost financial advice or lowering your living expenses. It’s also not the solution if you’re overwhelmed by debt and have no hope of paying it off even with reduced payments.
If your debt load is small — you can pay it off within six months to a year at your current pace — and you’d save only a negligible amount by consolidating, don’t bother. Instead, try a do-it-yourself debt payoff method instead, such as the debt snowball or debt avalanche. You can use a credit card payoff calculator to test out the different strategies.
If the total of your debts is more than half your income, and the calculator above reveals that debt consolidation is not your best option, you’re better off seeking debt relief than treading water.
» LEARN: What Canadians should consider about debt consolidation
Consolidating debt can be a good idea if you have good credit and can qualify for better terms than what you have now and you can afford the new monthly payments. However, you might think twice about it if your credit needs some work, your debt burden is small or your debt situation is dire.
Your debt consolidation loan could come at a higher rate than what you currently pay on your debts. This can happen for a variety of reasons, including your current credit score. If it's on the lower end, the risk of default is higher and you'll likely pay more for credit and be able to borrow less.
If you do it right, debt consolidation might slightly decrease your score temporarily. The drop will come from a hard inquiry that appears on your credit reports every time you apply for credit. But, according to Experian, the decrease is normally less than 5 points and your score should rebound within a few months.
If you're overwhelmed by multiple debts, debt consolidation might be a good option. This is particularly true if you can land a lower interest rate than the average rate you pay on your current debts.
Debt consolidation is ideal when you are able to receive an interest rate that's lower than the rates you're paying for your current debts. Many lenders allow you to check what rate you'd be approved for without hurting your credit score so you can make sure you're okay with the terms before signing on the dotted line.
Debt consolidation is a good idea if your monthly debt payments (including mortgage or rent) don't exceed 50% of your monthly gross income, and if you have enough cash flow to cover debt payments.
Financial consolidation errors result from an organisation increasing in size and complexity, coupled with finance teams using outdated or inadequate tools. The result is a succession of errors, data inaccuracies, and duplications that can affect your compliance and the accuracy of your statements.
Debt consolidation itself doesn't show up on your credit reports, but any new loans or credit card accounts you open to consolidate your debt will. Most accounts will show up for 10 years after you close them, and any missed payments will show up for seven years from the date you missed the payment.
Debt consolidation can be a handy strategy for paying off multiple debts as quickly (and as affordably) as possible. This can be especially true if the personal loan you use to consolidate your debts doesn't charge you a penalty for paying back the balance early.
Loan debt consolidation is when you take out a new loan to pay off multiple debts. Four types of debt are commonly consolidated: credit card debt, student loan debt, medical debt and high-interest personal loan debt. You may reduce the overall cost of repayment by securing better terms and interest.
Debt consolidation loans for bad credit are hard to come by. Lenders like to see a credit score of at least 670 for a debt consolidation loan, but probably closer to 700 just to be safe.
Every lender sets its own guidelines when it comes to minimum credit score requirements for debt consolidation loans. However, it's likely lenders will require a minimum score between 580 and 680.
Ways debt consolidation can hurt your credit score
For example, if you move your existing credit card balances to a balance transfer card, then end up using your old cards again, you may have more debt than when you started, which will likely hurt your credit score.
Debt consolidation itself doesn't show up on your credit reports, but any new loans or credit card accounts you open to consolidate your debt will. Most accounts will show up for 10 years after you close them, and any missed payments will show up for seven years from the date you missed the payment.
If a credit card account remains open after you've paid it off through debt consolidation, you can still use it. However, running up another balance could make it difficult to pay off your debt consolidation account.
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