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Published: Jun 12, 2023 20 min read

If you have substantial debt, juggling several monthly payments and seeing all the interest add up can become overwhelming. Debt consolidation can make repaying these debts more manageable leaving you with a single payment and possibly a better interest rate.

Learn what debt consolidation is, the pros and cons, what this type of loan offers, how to get one and which other options to consider.

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What is debt consolidation?

Debt consolidation is the process of paying off multiple balances using a single loan or line of credit. Some of the most popular ways of consolidating debt include debt consolidation loans, balance transfer credit cards and home equity loans or lines of credit.

Whichever one you use, they all involve the simplicity of one monthly debt payment and a single interest rate. Borrowers often seek debt consolidation when they want to simplify their bill payments, pay off the debt faster and get a lower monthly payment or interest rate.

How does debt consolidation work

To consolidate your debt, you need to apply for a new loan or credit line that covers the total amount of your existing debt. Additionally, the debt you want to pay off needs to be unsecured debts such as credit card debt or a payday loan.

Once you decide to consolidate your loans, you must apply for a new loan and meet the lender’s specific criteria. If you have a low debt-to-income ratio (your monthly debt payments divided by your gross monthly income) and a good credit score, banks will offer more options and better interest rates.

Borrowers with poor credit scores, on the other hand, might face challenges in qualifying for this type of loan. While there are debt consolidation loans for those with bad credit, they do charge higher rates and/or may require collateral or a co-signer.

Once you’re approved for a debt consolidation loan, the process for paying off existing debts can vary. In some cases, the new creditor will pay off your creditors directly. Some lenders, on the other hand, will deposit the funds into your bank account or give you access to a credit line you can draw from to pay off creditors yourself.

Remember, it’s important to pay your loan on time to avoid fees, damage to your credit score and, potentially, collateral loss (if your loan was secured by collateral).

A debt consolidation example

Let’s say you have a $3,000 credit card balance, a $2,000 personal loan balance and you still owe $10,000 on your student loans. If you pay an average interest rate of 20.92% for these debts, you’d need to pay $564 a month for three years to pay them off.

You apply for a debt consolidation loan and are approved for a $15,000 loan at an interest rate of 10%. You could then pay off your debt in the same three years, however you’d pay almost $3,000 less in interest.

Pros and Cons of debt consolidation

Debt consolidation offers benefits such as simplified repayment, potential savings and improved financial management. However, it also has drawbacks like potential fees and the need for good credit.

  • One single payment: Debt consolidation helps you streamline your debts into a more manageable payment with only one due date to remember. This can make it easier to avoid late fees that can negatively impact your credit score.
  • Faster debt payoff: A lower interest rate can help you pay off debt faster.
  • Origination fees: Lenders likely will charge origination or balance transfer fees in the case of credit cards. Balance transfer credit cards charge anywhere between 3 to 5% of the debt to be transferred. Note that home equity credit products used for debt consolidation may also involve additional closing costs.
  • Potentially high interest rates: While shopping around may result in you getting a low interest rate, this is not guaranteed, as rates depend on factors like credit history, loan type and your chosen terms. So, if you have blemishes on your credit report, you could end up paying a higher rate than you already do.
  • Extended repayment period: You may need to extend the loan repayment period to keep your monthly payment low and manageable. This means paying more interest over time.

Types of debt consolidation loans

Debt consolidation loans, home equity loans and lines of credit, balance transfer credit cards and student loan refinance can all serve the purpose of consolidating debt and ideally getting better terms. The payment amount, repayment length, interest rates, fees and loan application processes vary for each method.

Debt consolidation loan

A debt consolidation loan is a type of personal loan specifically meant to combine multiple debts into a single loan, typically with a lower interest rate. This type of loan is used to pay off existing debts, such as credit cards, medical bills or personal loans, simplifying the repayment process and potentially saving money on interest payments.

The amounts and repayment terms vary, but lenders will usually let you borrow anywhere from $1,000 to $100,000 and give you between one to seven years to pay the loan back.

As with other loans, you’ll have to go through a credit check, income verification and pay potential fees. Keep this in mind when you research and compare lenders, specifically their rates and fees, to make sure you select the best debt consolidation loan option for you.

Balance transfer credit card

A balance transfer credit card, as its name says, lets you transfer existing credit card and loan balances onto a new credit card with a lower interest rate. Some of the best balance transfer credit cards offer 0% APR during an introductory period of anywhere between 12 and 21 months.

Note, however, that after the promotional period, the regular interest rate will apply and usually be higher than loans meant for debt consolidation. Additionally, most of these cards charge a balance transfer fee, typically between 3% and 5% of the transferred amount.

It’s also important to note that a balance transfer credit card may not provide a large enough credit line to transfer a high amount of debt.

Home equity loans or home equity line of credit

Home equity loans and home equity lines of credit (HELOCs) can be used to consolidate debt by leveraging the equity in a person's home. They both usually involve closing costs that can constitute as much as 5% of the borrowed amount.

However, home equity loans and HELOCs work differently when it comes to the repayment process, interest rates and how you can use the funds.

A home equity loan has a fixed rate and repayment terms. It pays out the loan amount in a lump sum, allowing homeowners to consolidate their debts, then make predictable payments. On the other hand, a HELOC offers a revolving line of credit, similar to a credit card, where borrowers can access funds as needed (up to a predetermined credit limit) and only pay interest on the borrowed amount.

Home equity loans and HELOCs both come with the risks involved with using your home as collateral — in other words, if you default on your loan, you could lose your home. Therefore, you should evaluate the terms, interest rates, repayment options and personal financial situation carefully before opting for a home equity loan or HELOC to consolidate your debts.

Check out our list of the best home equity loans to find the one that works for you.

Student loan refinance

Consolidating multiple student loans into a single loan can have its advantages: it simplifies your repayment and you might secure a lower interest rate if your credit score has improved or if overall interest rates are lower. This can lead to significant savings over the life of the loan, making it a great option for borrowers who want to reduce their bills.

However, refinancing your federal student loans means your new loan will be from a private lender. Therefore, you’d be giving up the benefits that come with federal loans, such as the student loan forgiveness programs or the student loan payment pause that has been in effect since the start of the covid pandemic.

In contrast, if you have a mix of federal and private student loans, refinancing offers several benefits. Not only can you take advantage of consolidating your debts into a single monthly payment, you can also choose a repayment term that works best for your current financial situation.

As the student loan repayment pause comes to an end, this can be an option for you to continue paying down these debts while also giving yourself more breathing room. To learn about this option, check out our list of the best student loan refinance companies.

How to consolidate debt

As we discussed in the previous section, there are several ways you can consolidate your debts. Once you’ve chosen one, the requirements and application processes are similar. Where they differ is in how you pay off your old debts. You can either consolidate your debts in one loan or transfer your credit card balances into one new card with a lower interest rate.

How to get a debt consolidation loan

Regardless of the method you choose, consolidating debts can help you streamline your financial obligations and save some money on interest rates. But to get there, first you’ll have to take inventory of your debt, check your credit scores, find the best interest rate and make a budget.

Check your credit score

Most debt consolidation strategies involve getting a new loan or credit line so a good credit score and credit history are ideal. Knowing your credit score will allow you to determine whether it’s the right time to consolidate, or if you should work on credit repair first to get the best loan terms and rates possible.

You can request a free credit report from websites such as, which allow you to see your report from all three major credit bureaus (Experian, TransUnion and Equifax.)

Know the interest rate you need

You’ll want an interest rate that’s lower than the weighted average interest rate of all your debts. Unlike a simple average, the weighted average interest rate reflects the amount that each loan contributes to your debt total.

To calculate this, add up how much you’ve paid in interest over the last year and divide by the total amount of debt you have. This should give you a weighted average interest rate.

Keep this number in mind when you’re shopping around for a debt consolidation loan.

Determine how much you’re willing to pay every month

First make a list of your monthly expenses and separate the obligations (mortgage or rent, utilities, food, car payments, etc.) from the expenses you can reduce or eliminate (dining out, entertainment, shopping, etc.). While not an obligation, we also suggest you allocate some funds to a savings account for emergencies.

Next, run the numbers and determine a monthly payment that’s reasonable based on your current financial situation. Make sure this loan payment also accounts for any repayment fees required.

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Shop around if possible

If you have fair to excellent credit, you’ll want to make sure to shop around for the best interest rates and lowest fees, and apply to a lender that offers loans with interest rates lower than your weighted average. Make sure to check out our list of the best debt consolidation loans before making your pick.

Debt consolidation loan vs balance transfer credit card

While both loans and balance transfer credit cards can be effective ways to consolidate debt, there are important differences between them.

Debt consolidation loan Balance transfer credit card
Once you consolidate loans, the old loans are paid off and closed, effectively ending the financial responsibility tied to each of them. After transferring credit card balances, individuals may be tempted to continue using the paid-off credit cards, potentially leading to more debt
Most debt consolidation loans have fixed interest rates, so you’ll always pay the same amount and will know when you’ll pay off the debt completely. Balance transfer credit card offers may include 0% or low introductory rates for a limited time, but these eventually increase making monthly payments more expensive.
Can involve various types of loans, such as personal loans or home equity loans. Typically specific to credit card debt consolidation (although some issuers allow transfers from a personal loan balance).
Once loans are paid, the bank closes the account. When you pay down a credit card balance the credit card remains open unless you request it closed.

Does debt consolidation hurt your credit?

Taking out a debt consolidation loan, line of credit or new credit card can hurt your credit, but only temporarily. These all involve a hard credit inquiry which usually leads to a temporary dip in your credit score. Over time, however, debt consolidation can help you repair your credit, so long as you make your payments on time as payment history accounts for 35% of your credit score.

Additionally, if debt consolidation helped reduce your credit card debt, it could reduce your credit utilization ratio, another important factor in determining your credit score.

How do you choose the right debt consolidation loan?

When evaluating debt consolidation loans, you should focus on two things: your credit score and the type of debt you want to pay off.

If you have secured debts, such as an auto loan or a mortgage, then we recommend you opt for an auto refinance or mortgage refinance loan. On the other hand, if you want to consolidate unsecured loans or debts, like personal loans, credit cards or medical bills, then the best route is to take out a consolidation loan.

Your credit score is an important consideration, as it will determine what kinds of rates you’re offered. If your credit score is low, it’s possible that debt consolidation loans will offer you higher rates than what you’re already paying on your debt.

Additionally, if the new interest rate isn't fixed, learn how and when it can change so you can budget accordingly. And, don’t forget to study the terms and conditions of the loan agreement to ensure you understand the loan's requirements and any potential fees or penalties.

How do you choose the right debt consolidation company?

For a loan or a balance transfer credit card, use a licensed financial institution and a name you trust. If you decide a debt management plan or debt settlement is right for you, vet the debt relief company or agency in question by checking the Consumer Financial Protection Bureau’s (CFPB) database of complaints.

Lastly, you’ll want to choose a company that can give you a solution that fits your budget and the timeframe you’ve established to pay off your debts.

Is debt consolidation worth it?

Debt consolidation is a good idea for people who want to get a better handle of multiple debts. It can also help individuals pay off their debts faster, especially if the new loan has a low interest rate. But, to get the most out of consolidation you must evaluate your financial situation, compare offers from different lenders and consider the fees involved before you decide to consolidate.

Alternative to debt consolidation

There are other alternatives worth looking into as well. Two options include signing up for a debt management plan or settling current debts with creditors.

Debt management plan

A debt management plan through a credit counseling agency would also streamline multiple debt payments into one. The agency reviews your whole financial picture, collects information about your debts and creates a repayment plan that fits your budget. The result is a single monthly payment made to the agency, which then sends the agreed payments to the creditors owed.

Since it doesn’t require taking out a new credit line or loan, this option is a good choice for those who may not meet the credit or income requirements for traditional loans or credit. It can also help you save on interest and fees and reduce collection calls since the credit counselor will often negotiate with debt collectors. Sticking to the plan and paying on time can ultimately eliminate the debt, but you’ll need to follow the agency’s rules to avoid being removed from the program.

This debt consolidation alternative comes with some costs and limitations. First, the agency can charge a one-time setup fee and a monthly fee for as long as the plan is active. Also, the plan excludes certain debts, such as secured loans, and may forbid you from using credit cards while enrolled.

Debt settlement

Debt settlement involves working alone or with a debt settlement company (also called “debt relief” or “debt adjusting”) to persuade creditors to accept less than the full balance owed. This option works best if your account has already been delinquent for at least a few months and you can afford an agreed lump-sum payment.

Keep in mind that this debt-settlement approach involves contacting creditors to explain the financial issues preventing you from paying the full amount. This means you’ll have to explain your situation and present the reduced amount you could pay. If the creditor agrees, get proof in writing, make note of any terms and make the payment as soon as possible.

If you hire a debt settlement company, the company will negotiate on your behalf. However, this option is usually costly and there’s no guarantee that it will provide debt relief as the settlement company may still not have luck settling all your debts. There are also risks that a contacted creditor will try to sue and the settlement company will ask you to stop paying bills and take other actions that result in negative items on your credit report.

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What is debt consolidation?

Debt consolidation is a personal finance strategy that consists of taking out a new loan, credit card or line of credit to pay off multiple high-interest balances. This essentially consolidates those debts into one, leaving the borrower with just one bill to pay and a potentially lower interest rate.

How does debt consolidation work?

There are multiple ways to consolidate your debt. You can take out a personal or a debt consolidation loan to pay off your balances, transfer your credit card balances using a balance transfer card, or by designing a debt management program with the help of a credit counseling agency.

How do I get a debt consolidation loan?

When getting a debt consolidation loan, the first thing you need to do is take note of how much you owe on each of the accounts you want to pay off or consolidate. That way, you'll know the exact loan amount you'll need to borrow. Once you do that, it's time to shop for lenders to ensure you get the best terms and rates possible. If you don't know where to start, prospective borrowers can use a rate comparison website, like Credible or LendingTree.

How does debt consolidation affect your credit score?

Debt consolidation may cause your credit score to drop by a few points. This is because when you take out a loan to consolidate your debts or transfer the balances to a new credit card, both of those accounts are new and don't have a payment history, which is one of the biggest factors taken into account to calculate your FICO score.

What is the best debt consolidation company?

The best debt consolidation company for you will depend on several factors, including the number and types of debts you want to consolidate, your credit score and the interest rates offered by different companies. To find out which is best for you, we suggest you research and compare multiple debt consolidation companies to find the one that offers the most favorable terms and matches your specific financial needs and goals.

Summary of Money’s What is Debt Consolidation

  • Debt consolidation consists of taking multiple debt balances and rolling them into a single account, to simplify your pay-off strategy and repayment terms.
  • You can consolidate your debts using different types of loans, a balance transfer credit card, or by enrolling in a debt management program from a nonprofit organization, just to name a few.
  • The right consolidation strategy will depend on factors such as your credit score and the types of debt you have.
  • Besides making debt more manageable, debt consolidation allows you to save money on interest, free cash flow through a lower monthly payment and can help boost your creditworthiness.
  • When choosing a debt consolidation company, go for a well-known institution with a good reputation and that can offer you the right plan that fits your financial circumstances.