A debt consolidation loan is designed to streamline multiple debts into one single monthly payment. It can be a good option for those who are juggling multiple debts with different repayment dates as it makes it easier to manage the debt and less likely to miss any payments. However, debt consolidation loans are not the only way to manage debt and may not be the most suitable option for you.
What is a debt consolidation loan?
Debt consolidation loans are designed to streamline multiple balances into a single monthly payment – they make it easier to manage your debt and reduce the amount of interest you are paying. Taking out a debt consolidation loan means that you move all of your existing debts to one loan so there is only one payment to manage and only one interest rate.
One of the reasons people choose to take out a debt consolidation loan is that it can sometimes work out cheaper.
Personal loans, including the likes of short term loans and even slightly longer term loans will usually offer low interest rates meaning that moving all of your debt to one single loan payment could mean that you are paying less in interest per month, allowing you to save money in the long run. However, the most favourable interest rates are usually reserved for those with good credit meaning that for borrowers with less-than-perfect credit, it may not be cheaper to move their debt to a personal loan.
How else could you consolidate your debts?
If you are not convinced by the idea of a debt consolidation loan, there are still many different options available which could be a better option to suit your personal financial situation:
1. Repay cards with the highest rate first
Before deciding which strategy to choose when paying off your debt, make sure you know exactly how much you owe and the interest rates of different debt types. Around a staggering 38% of Americans with credit cards do not know the interest rates associated with their credit cards (in the UK there are charities that can help when you are in debt). The first step should always be to check the different interest rates so that you know which are charging the highest interest, these should be the ones that you pay off first in order to start managing your debt more efficiently.
Once you have identified the cards charging the highest interest, make the minimum payment needed for each of your cards. Then, any leftover money that you have, you can use to pay off the card with the highest interest rate. If you pay off your cards in order of APR rather than balance, it can help you get your debt management underway more quickly and could save you money.
2. Move your balance to a 0% interest rate
If you have a good credit score, moving your debt to a card with a 0% introductory rate could be a sensible option. Some credit cards offer an introductory rate of 0% which can last anywhere between 12 to 18 months. If you choose this option, it means that you can work on repaying your debt quickly without having to pay interest. Before doing this, you need to check if there is a fee charged to transfer to another card and how much this fee would be.
It is worth noting that this is only a cost-effective method if you are able to repay your full balance before the end of the 0% introductory period otherwise you could end up paying a large amount of interest.
3. Increase your minimum payment
Many cardholders make the minimum required payment per month as a way of managing their credit card debt. Although this avoids paying interest on the account, it does not help to tackle your debt. However, if you are able to increase the minimum payment, or double the minimum amount needed, you could pay off your debt much faster.
4. Devote extra money towards paying off your debt
Rather than paying off your credit card interest rates, it might be better to put money towards reducing the total value of your credit card debt. Even if you borrowed as little as $1000 through your credit card, paying off debt earlier will save you money in the medium to longer term, with less interest to be paid. This will help you to repay your debts faster and move into the black sooner.