On average, Americans have a credit card balance of $5,910, according to a 2022 study by Experian. And 12% of U.S. adults owe more than $10,000 in medical debt, according to a report from the Kaiser Family Foundation.
If you’re facing debt, you can reduce or eliminate it in several ways. Debt consolidation, which rolls all your debts into a single account with one monthly payment, is one option you may want to consider.
Here’s what you need to know about debt consolidation:
- How debt consolidation works
- How to consolidate debt
- Qualifying for a debt consolidation loan
- Should you consolidate your debt?
- Debt consolidation alternatives
How debt consolidation works
Debt consolidation is a process where you combine all your debts into one account, ideally with a lower interest rate. This eliminates the need to make separate payments on multiple credit cards and loans. You’ll simplify your finances by having one easy-to-manage payment. If you’re overwhelmed with high-interest debt, debt consolidation might be a good solution.
How to consolidate debt
The best way to consolidate debt depends on your financial situation and factors like your total debt load, credit score, and current personal loan interest rates, (if you’re considering a debt consolidation loan). Here are a few options to explore.
Debt consolidation loan
A debt consolidation loan is an unsecured personal loan you can take out online or in person at a bank or credit union. To apply, you’ll need to fill out an application and submit documents like pay stubs and tax returns. If the lender approves your application, you’ll receive a lump sum of money up front and repay it in fixed monthly payments over a set term. While loan amounts vary by lender, you can typically borrow anywhere from $500 to $100,000.
The best debt consolidation lenders look for a good credit score, but if you have less-than-perfect credit, you can still get approved by a lender specializing in loans for borrowers with lower credit scores. But watch out for payday loan scams — these loans may not require a credit check, but they can have astronomical annual percentage rates (APRs). If you want to increase your chances of approval and score more favorable terms, consider applying with a cosigner (if your lender allows it).
Balance transfer card
A balance transfer card lets you transfer balances from your current credit cards to a new card. Some balance transfer credit cards come with a 0% interest rate for an introductory period that can go up to 12, 18, or even 21 months. Since you’ll focus on paying down your balance without interest, you can save money and make good headway on your debt. Keep in mind that as soon as the introductory period ends, any remaining balance will start to accrue interest at the card’s regular rate.
In most cases, you’ll need a high credit score to get approved for a balance transfer credit card. You may also have to pay a balance transfer fee between 3% and 5% of the amount you transferred. That’s why it’s essential to do the math and make sure a balance transfer makes sense for your situation.
Qualifying for a debt consolidation loan
Not everyone is eligible for a debt consolidation loan. Here are some ways you can increase your chances of qualifying:
- Improve your credit. If you don’t have the best credit score — for example, a score of 580 or below — it’s a good idea to take the time to improve it. To do so, always pay your bills on time, as even one late or missed payment can take a toll on your credit. Keep your credit balances low, don’t close old credit card accounts, and only apply for credit when you absolutely need to.
- Apply with a cosigner. A cosigner can be a friend or family member with strong credit. If you default on your loan, they’ll be responsible for your payments. Since a cosigner reduces risk, lenders may be more likely to approve you if you apply with one. Just keep in mind that if you don’t make your payments, you could damage your relationship with your cosigner.
- Shop around. A variety of lenders offer debt consolidation loans. Do your research and compare consolidation loans so you can find the ideal one. Fortunately, most lenders allow you to prequalify without affecting your credit score.
Should you consolidate your debt?
Debt consolidation might make sense if any of these situations apply to you:
- You have several high-interest debts. If you have multiple debts with high interest rates, debt consolidation can be a good choice, especially if your credit has improved since you took them out.
- You have strong credit. Most lenders and creditors will require a strong credit history for both debt consolidation loans and balance transfer credit cards.
- You can repay your debt consolidation loan in a few years. Debt consolidation loans usually have a defined payoff date of one to seven years. You may benefit from this type of loan if you’re confident you can settle the debt in that amount of time.
- You’re overwhelmed with debt. If you’d like to get out of debt but are having trouble keeping track of all your payments and due dates, debt consolidation can simplify the process.
Debt consolidation probably isn’t the best strategy in the following scenarios:
- Your total debt balance is low. If your debt is small and you can pay it off in less than a year with regular payments, debt consolidation doesn’t make sense. This is particularly true if you have to pay origination fees or a balance transfer fee, for example.
- You have a high debt-to-income ratio (DTI). Your DTI compares your monthly gross income to your monthly debt payments. If it’s higher than 50%, you might be better off with a debt management plan, where a nonprofit credit counseling agency helps negotiate lower interest rates on your behalf.
Debt consolidation alternatives
If you decide that debt consolidation isn’t a good fit, consider a debt payoff strategy like the debt avalanche or debt snowball method.
The debt avalanche focuses on paying off the debts with the highest interest rates first. Once you pay off the credit card with the highest rate, you apply that card’s old payment to the card with the next-highest interest rate, and so on. With the debt avalanche, you’ll save the most money in interest. But it may take longer to see progress, and you might find it more difficult to stay motivated.
The debt snowball prioritizes the smallest debts. You apply the most money toward the debt with the smallest balance until its balance is zero. Then, you’ll apply the money you used on that balance toward the next-lowest balance. You’ll repeat this process until you’ve paid off all your debt.
Every time you eliminate the need to make a payment on one debt, you’ll have more money to put toward the next debt and create a snowball effect that builds momentum and keeps you motivated. Just keep in mind that you’ll pay more in interest over time with this method.