If you find yourself looking at several thousand dollars of debt, you may wonder how you can move forward financially, lessening the impact that debt can have on your credit—and your life. Consolidating your debt may give you more flexibility and agency in paying down your debt. But how can you consolidate, and what are the pros and cons of each type of debt consolidation? We’ll explore two approaches in this article.
1. Consider taking out a personal loan to pay off the debt.
A fixed-rate debt consolidation loan is a time-tested way to help individuals pay off debt. Generally, the interest rate you can get on a personal loan will be lower than the interest rate on any credit cards you may have. Initially, you’ll use the consolidation loan to pay off your debts, and then pay back the loan in set installments over a certain period of time, often between one and five years.
PRO: Although new loans can cause a dip in your credit score due to the credit inquiry, this dip is often temporary, and consolidating your debts can actually improve your credit in the long term. For example, as you pay off lines of credit with a debt consolidation loan, you’ll reduce the credit utilization rate on your credit report, which can bump your number up. In addition, making regular, fixed payments on a personal loan will slowly improve your credit score over time.
CON: If your credit score is already quite low, it can be very difficult to secure a personal loan with a low-interest rate. Make sure that you don’t take out a debt consolidation loan with a higher interest rate than your current debts. Also, be aware that taking out a loan may mean you ultimately pay more interest over time, due to the longer duration of the loan. While this may make the monthly payments more feasible, it’s wise to ask about the principle vs. interest breakdown when you’re considering the term length of your loan.
2. Consider a 0% interest balance transfer credit card.
If you can’t qualify for a personal loan, one unorthodox way of consolidating debt is with a balance transfer credit card. Essentially, you find a credit card with an initial APR of 0%, and you transfer balances from several credit cards onto one single card, thus consolidating your debt. (This also has the advantage of simplifying your finances so that you have a single monthly payment.) During the 0% APR promotional period on the credit card, make aggressive steps to pay off your accumulated debt.
PRO: This can be an effective strategy because, initially, all payments you make are going directly to the principal debt. You are not paying off any interest. If you have a good amount of money saved and can make large contributions to pay off your debt, a balance transfer credit card can help you pay the debt off directly, rather than paying additional interest.
CON: All good things must come to an end, and no credit card maintains a 0% interest rate for long. If you move your debt to a balance transfer credit card, you must be prepared for that rate to eventually rise into the teens or low twenties after the promotional period has passed. Mark the end of that period on your calendar, and know that when the card’s true APR kicks in, you’ll again be subject to high-interest rates. Ideally, you’ll have a large portion or all of the debt paid off at that point. Otherwise, you could continue to accrue debt—just in a new location.
Want Help Understanding Even More About Debt Consolidation?
Unexpected debt can be confusing and overwhelming, and you deserve to have someone on your side to demystify the process of repayment. Southwestern Investment Group has experienced financial advisors who can answer your questions about debt consolidation and repayment. Contact Southwestern Investment Group today to schedule a consultation!
