Debt consolidation is the process of refinancing multiple debts into a single payment, ideally with a lower interest rate. People often use debt consolidation to combine high-interest-rate credit cards—and sometimes loans or other debt—into one single monthly payment.[1]
It may be something to consider if you’re looking for an end goal or you’re financially overwhelmed. Sometimes people choose debt consolidation when their credit has improved, making them eligible to pay off high-interest debt cheaper and faster.
Debt consolidation loans and lines of credit like 0% APR balance transfer credit credits are common tools people use to consolidate existing debt. Other options include a home equity loan or a 401(k) loan, but these tend to be seen as riskier.[2]
How does debt consolidation work?
Debt consolidation works differently depending on the type of debt you’re consolidating and how you choose to consolidate it. For instance, let’s say you have three credit cards with a total balance of $15,000 and with an average interest rate of 27%. Maybe you’re making the minimum payment on each card or you’re able to swing a bit more, but either way, you’re not able to pay off your balances in full each month.
With a debt consolidation loan, you take out the loan and use the funds to pay off your cards. You’ll still have the $15,000 to repay, but instead of multiple card payments, now you just pay one lender back. Your monthly payment may be less than what you were paying for all three credit card payments, and you have an end date in sight for when all your debt will be paid off.[2]
That’s just one type of debt consolidation.
You could instead choose to transfer your high-interest balances to one 0% APR balance transfer credit card. These cards often come with long introductory offer periods ranging from 12 to 21 months. You won’t pay interest as long as you pay off the total balance within this time frame. While there’s typically a balance transfer fee, often 3% to 5% of the balance, you may save in the long run because of the 0% interest rate and quicker payoff timeline.[2]
What is a debt consolidation loan?
A debt consolidation loan is a type of unsecured fixed-rate installment loan that’s used to consolidate different types of debts. You may be able to qualify for a low interest rate based on your creditworthiness and financial situation. If the rate is fixed, your monthly payments and interest costs will be predictable over the life of the loan.[1][2]
You can use the money from a debt consolidation loan to cover most kinds of debt. So, if you have several types of debt, like medical bills, credit cards, or even another personal loan you want to refinance, you can consolidate them all into your new debt consolidation loan. However, it’s important to note that some debts, like student loans, cannot be consolidated with this type of personal loan.[2]
To avoid a hit to your credit when shopping around for loans, look for lenders that allow you to check your rate. With LendingClub Bank, checking your rate has no impact on your credit score because we use a soft credit pull.
How debt consolidation may help you save money
To figure out how much you’d potentially save through debt consolidation, calculate your potential interest costs. For instance, you could take out a debt consolidation loan to pay off the $15,000 in credit card debt we mentioned earlier. Taking out a loan for $15,000 with a 14% interest rate and three-year term would save you nearly $1,700 compared to paying down the cards directly.