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What is debt consolidation and how can it help pay off debt?

  • Mar 3, 2022, 14:26 PM
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As of 2021, the average American held $5,525 in credit card debt; $1,888 in retail card debt; $39,341 in student debt; $20,504 in car loan debt; and $25,112 in other non-mortgage debts, according to consumer credit reporting company Experian.

If you’re reading this, chances are you are holding at least some debt. While not all debt is bad, too much credit card and other types of debt can have negative consequences, such as lowering your credit score and creating a financial burden that can take years to unload.

One way to deal with mounting debts is to consolidate them. If you’re unfamiliar with the concept, this article will help you understand the basics.

Debt consolidation, demystified

To put it simply, debt consolidation means taking your existing debts from credit cards, personal loans, car loans, student loans, and other sources and combining them into a single loan, ideally with a lower interest rate. This is one of the best ways to get rid of high-interest debt while combining several debts into a single monthly payment.

For example, at CAFCU many of our credit union members take advantage of our lower-rate personal loan or home equity loan to combine debts into one loan.

Consolidating debt can be extremely helpful in empowering you to focus on paying off debt faster. Depending on which method you use, you might also pay less toward interest. This can amount to hundreds of thousands of dollars you shouldn’t have to pay.

Ways to consolidate debt

There are a few different options when it comes to consolidating debt.

One way already discussed here is to take out a personal loan. A personal loan is an unsecured loan that gives you the funds you need to do things like consolidate debt, make home improvements, pay for a wedding, or travel. This type of loan uses your creditworthiness instead of collateral for the loan.

The benefit of using a personal loan to consolidate debt is that the interest rate will typically be lower than the average credit card. Just be sure the rate you secure with the loan is fixed and not subject to increasing after an introductory period. Also, make sure you are aware of the fees involved, as some personal loans come with application fees, origination fees, and/or prepayment penalties. Finally, if you have a lower credit score, you may not be approved for the loan, or you may have to pay a higher interest rate.

A second way to consolidate debt is to apply for a home equity loan, whether a fixed loan or a home equity line of credit (HELOC), to pay off high-interest debt using the equity in your home. This can be a great choice due to the lower interest rates associated with these types of loans. Also, depending on the amount of equity you have in your home, you might be able to borrow more. However, it is critical with a home equity loan that you make your payments on time, as late payments could put you at risk of foreclosure and losing your home. In addition, home equity lines of credit can have variable interest rates that could make your monthly payments higher depending on whether rates go up.

A third way is to consolidate debt is to use a credit card balance transfer offer. With this method, you can take advantage of a low- or no-interest introductory rate. However, introductory rates aren’t built to last and can increase after the introductory period. This is the best option if you think you can pay off your debt quickly, i.e. within six months. Note that there may also be a balance transfer fee of 3 to 5 percent of the debt transferred to the card. You will also need a good credit rating to qualify.

 

Ready to consolidate your debt?

Contact one of our lending experts to share your story and learn more about how we can help you get your debt under control and live debt free. You can reach CAFCU’s Lending Center by calling 1-800-359-1939, option 2, or by emailing [email protected].