The Ultimate Guide to Debt Consolidation
If you’re struggling with debt in America you’re not alone. Consumer debt increased by billions of dollars in 2020, according to the U.S. government.
Of the several debt-relief solutions available, debt consolidation carries the potential to rescue struggling consumers from debt faster, and less expensively, than any other means, assuming that certain preconditions are met.
But before we consider the risks, let’s start at the beginning.
What Is Debt Consolidation?
Debt consolidation refers to the process of converting multiple high-interest monthly credit card bills into a single, lower-interest loan. The loan is used to pay off all debts all at once, leaving the loan repayment as your sole monthly debt obligation.
Now, consolidating debt doesn’t mean it has gone away. It just means that you’re paying it off differently – ideally at a lower interest rate, and at a lower (fixed) monthly cost.
In fact, for a debt-consolidation loan to make the best sense you’ll want good enough credit to qualify for a loan with an interest rate no higher than the rate on the credit cards you’re trying to pay off. Because there are costs associated with debt consolidation.
What Does It Cost?
Whether it’s closing costs associated with your credit card accounts, or balance-transfer fees, you may be paying between three and five percent of your debt balance for the privilege of consolidating your debt. Be sure you’re saving more than 5% of your outstanding balance before committing to a loan.
Also, if you seek a personal loan to pay off your credit card debt, be aware that the amount of interest accrued on your consolidated balances will be built into any such loan. So even if you repay the loan early you’ll still be paying the full amount of interest for the life of the loan.
How Long Does Debt Consolidation Take?
If you have a high debt load, allow 3-5 years to pay off a consolidation loan. Be mindful of high interest rates, though – a credit rating below 580 will likely make it difficult to secure a low-interest loan, defeating the whole purpose of debt consolidation.
To reduce debt and repay your loan even faster, consider programs that let you combine a consolidation loan with a debt settlement plan. Plans like Level Financing’s hybrid consolidation-settlement plan make it possible to repay a consolidation loan in 6-12 months.
Another consolidation option that saves time and money is a zero-percent balance transfer card. If you can pay off your loan before the rate on the card adjusts upward, you’ll be able to sidestep any interest payments.
Will It Affect Your Credit?
The answer is yes and no. Receiving a debt consolidation loan does not negatively affect your credit unless you default on the loan.
However, be careful about the credit accounts you’re consolidating. Closing them too quickly may result in a credit-score drop because the average age of your accounts will also drop. Meanwhile, your credit utilization ranking will increase. Each of these factors contributes negatively to your FICO score.
Keeping old accounts open after transferring your debt to a new line of credit makes avoiding a drop in your credit score likelier.
The value of a debt consolidation loan is that it lets you save money by repaying debt at a lower interest rate. And it lets you save time by giving you only one monthly bill to worry about.
But if you don’t get a loan with a lower, fixed interest rate, you risk seeing your interest rate balloon when the promotional rate expires. Then you’re right back in the soup.
To take best advantage of debt consolidation you’re going to need a good credit score – 580 or higher. Taking on a loan with an interest rate higher than or equal to the rate on your cards risks exacerbating your debt problem rather than fixing it.
Lastly, remember that getting a loan is not the same thing as receiving credit counseling. If poor money-management habits brought you low in the first place, a new loan will not teach you to change your financial habits. Only a disciplined commitment to your goal will ensure an ultimate escape from debt.
Level Financing’s credit counseling team invites you to develop a customized plan of attack for wiping out your entire credit card debt and lowering your monthly payments to a fraction of what they were – in a fraction of the time it might take for you to do so on your own.