When is Debt Consolidation a Good Idea?

When debt and bills hang over your head, you want to take action. But deciding what to do canbe tough. If you’re considering debt consolidation, you may be questioning if it’s the right call for you and wondering what the catch might be.

A great first step is what you’re doing right now — researching. There are different ways to consolidate debt, such as a credit card balance transfer or a debt consolidation loan. While a credit card could be a good option for some, a loan could help you better manage your monthly expenses with one predictable monthly fixed payment and a set date to finish paying off your debt. But make sure the loan terms work for you.

Let's explore some situations and pros and cons of consolidating debt to help you understand why it may or may not be a good idea.

When debt consolidation might be a good idea

Debt consolidation can offer a fresh start, but it’s not a one-size-fits-all solution. Below are some scenarios where a debt consolidation loan might be a smart move.

You can’t afford your monthly payments

Everyone’s financial situation is different. Even if you have a handle on your monthly bills, something that is out of your control like illness or job loss could put you in a tough spot. With debt consolidation, you may be able to lower your interest rate or get a longer term to pay down debt, which may lead to lower monthly payments.

For example: Let’s say you have four different credit cards totaling $21,000 in debt. You’ve been able to make the minimum monthly payments of $750, until one day your rent goes up, and you need to find at least $200 or more a month.

You apply for a debt consolidation loan for $21,000, get approved, and use the loan to pay off all your credit card debt. The term for the new loan is 60 months, with an annual percentage rate (APR) of 18%. Using our example, that translates into a monthly payment of $533.26, a meaningful savings of more than $200. With this example, you can now afford your new rent with just one predictable monthly loan payment to make instead of multiple credit card payments.

With on-time payments every time, your loan payment will stay the same each month — no surprises. And you'll have a fixed end date that your loan will be paid off, giving you a clear path out of debt.

You have trouble paying bills on time

People struggle to make monthly payments on time for a wide variety of reasons.

• You might have bills from a hospital stay, an auto repair, the IRS and a few store credit cards that are all due every month. Even if you keep track of everything on a calendar, frequent travel or a hectic schedule can make it easy for something to fall through the cracks.
• You and your partner might keep separate bank accounts, which means you must juggle funds to make on-time payments. One monthly payment would simplify your life.
• Your payday might not match up with the due dates for your loans or credit cards. That mismatch can make it hard to cover multiple payments while keeping up with other household bills.
• Maybe you tend to put things off. You know that managing four separate payments each month feels overwhelming — but you’d probably be more successful paying just one bill on time.

As you can see, tracking multiple due dates can quickly become overwhelming. With debt consolidation, you can save stress and avoid late fees by only having one monthly payment to pay.

You feel overwhelmed by debt

When debt creeps up on you, you can feel like you’re underwater. Despite making monthly payments, sometimes balances — sustained by high interest rates — never seem to go down Continuing to use your credit cards for new purchases may make it even harder to get ahead.

As you use your credit cards for purchases and make payments, your card balances and monthly bills fluctuate, which can make it hard to know exactly when you’ll be able to pay off your debt. In contrast, a debt consolidation loan is an installment loan, which means that, if you pay on time, every time, you'll have a clear path and a plan to pay off your debt.

With the possibility of one monthly payment that's lower than the combined total of all those individual bills, plus a final payoff date, many find that a personal loan for debt consolidation can provide much-needed financial and stress relief.

You could potentially save money on interest

If you have high-interest debt, refinancing it or moving it to a lower-rate credit card or loan could help you save money on interest every month. Those savings can add up quickly, especially if you carry a large balance or only make minimum payments.

Lowering your interest rate means more of your payment goes toward reducing the principal (original amount borrowed) — so you can pay off your debt faster with less stress.

Just be sure to factor in any loan origination fees or credit card balance transfer or transaction fees, since these costs could impact your overall savings.

You’re unable to pay down balances quickly

Making minimum payments can be a slow, painful crawl. If you’re only paying the minimum payment, some debts might take several years to pay off since most of your monthly payments go toward interest, not the principal balance.

With debt consolidation, you can combine multiple varying payments for multiple high-interest debts, including high-interest credit cards, into one predictable monthly payment.

The promise of a clearer, more efficient path to pay off debt may help people who can only afford to make minimum payments prepare for a more significant purchase — such as a house or a car — in the future.

But even once you have moved those balances to a debt consolidation loan, be sure to address the factors that may have put you in a financial bind in the first place. Are you living beyond your means? Impulse shopping online? Or maybe you just don’t have the savings to handle an emergency expense without relying on credit cards. Whatever the situation, start working toward greater stability by creating a budget and sticking to it.

You want to improve your credit score

Debt consolidation might also improve your credit score. If you pay off debt on multiple accounts (including sources of revolving credit like credit cards) without closing those accounts, you’ll increase your available credit and lower your credit utilization ratio, an important factor in determining your credit score.

Make monthly payments on your new debt consolidation loan or balance transfer credit card on time, every time, and you might raise your score even more.

When debt consolidation might not be a good idea

While debt consolidation can offer many benefits, it’s not the best option for everyone. In certain situations, it may not align with your financial goals or provide the relief you're looking for.

Your debt amount is relatively small

If your debt is manageable, and you don’t have many accounts to keep track of, consolidating your debt may not offer the benefits you expect. Debt consolidation is typically designed for larger amounts of debt to help streamline payments and possibly provide a lower interest rate. With smaller debts, you might not see enough of a benefit to outweigh the cost of the debt consolidation, and you could end up paying more in fees or interest than if you had managed your debts separately.

Your debt consolidation loan offers have a higher interest rate than your existing debt

Debt consolidation doesn’t erase your debt. Instead, you walk away with a refinance loan that has extended repayment terms or a credit card with a promotional interest rate on transferred balances. Sometimes those terms can work against you if you end up paying more interest or extra fees, so read the fine print carefully.

Always check the rate and compare it with your current interest rates to make sure consolidating will truly offer you savings.

The fees to consolidate debt may eliminate all your potential savings

Whether you consolidate your debt with a personal loan, home equity loan or balance transfer, fees — like origination or balance transfer fees — can add up and reduce the savings you might have expected.

You may find that the total cost of the loan could be a stretch for your budget compared to paying off your debts one by one.

Debt consolidation is a good idea if it’s good for you

Find out exactly how debt consolidation works, and you could discover many upsides. However, those upsides don’t necessarily apply to everyone. That’s why it’s important to take a close look at your current situation, compare your options, and make the choice that supports your long-term goals.

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This article has been updated from postings in 2019-2021. Matt Diehl and Kim Gallagher contributed.