Debt Consolidation Methods

Debt isn’t a life sentence. If you’re willing to make changes, a path forward is possible. Debt consolidation may be one way to make your debt more manageable.

Debt consolidation is when you combine multiple debts into one new loan or monthly payment. Consolidating your debt may help you save on interest, reduce your monthly payments, and simplify debt management. It may also enable you to pay off your debt sooner.

Let’s take a closer look at some debt consolidation methods that could help you take control of your debt and improve your financial wellness. 

Personal Loans for Debt Consolidation

Personal loans are a popular way to consolidate debt. ​Taking out one fixed-rate personal loan to pay off multiple high-interest debts could save you money. Having a single monthly payment and a set payoff date can simplify debt management and may help you get out of debt sooner.

APRs for personal loans vary, but they are typically lower than those for credit cards. To qualify for a loan with a lower APR, you’ll typically need a strong credit profile or a co-signer with one.

Personal loan amounts typically range from $1,000 to $50,000, with terms of two to five years. Most personal loans are unsecured, fixed-rate loans.

To qualify for a personal loan, you’ll need a credit score of at least 580. Some lenders require a higher score. Loan approval and rates also depend on factors such as income, debt, and recent payment history.

Using a loan to consolidate debt doesn’t reduce your debt; it only shifts the debt to a new place. You’ll need to make regular payments on the new loan until it is repaid. 

Balance Transfer Credit Cards

Balance transfer credit cards are a way to move high-interest credit card debt to a new card with a temporary 0% introductory APR.

During the introductory period (typically six to 21 months), you won’t be charged interest. But afterwards, standard credit card interest rates (typically 21% to 30%) apply. You’ll pay a balance transfer fee when transferring your debt (typically 3% to 5%).

Transferring debt doesn’t reduce the amount you owe. It just shifts where it's held. If you pay off your new card balance before the promotional period ends, balance transfer credit cards could help you save on interest. But interest will apply to any balance not paid off before the promotional period ends. 

To qualify for a balance transfer credit card, you’ll need to have good to excellent credit. 

Because the 0% promotional period is typically short, this isn’t an ideal credit card debt relief tool for people who need significant time to repay their debts, or those with large balances on other cards. It’s also not the right fit if you're experiencing financial hardship or are already behind on your credit card payments. 

A real pitfall to be aware of is the risk of ending up deeper in credit card debt by running up balances on your paid-off cards after transferring the balances to the new card. This is a thing. If it happens to you, you could end up in much deeper debt.

Home Equity Loans and HELOCs

Home equity loans and home equity lines of credit (HELOCs) are debt consolidation tools that may be available to homeowners with sufficient home equity.

Home equity loans typically have a fixed interest rate and are disbursed in a lump sum. HELOCs function as lines of credit and often have variable rates.

Both use home equity as collateral, meaning failure to repay them could result in foreclosure.

Home equity loan terms typically range from five to 20 years.

10 to 20-year repayment periods are common for HELOCs. Longer repayment terms of 10 to 30 years can increase total interest costs

Typical credit score expectations for a HELOC for debt consolidation are 600 and higher. Approval for a home equity loan or HELOC is dependent on credit and the availability of equity.

Home equity loan and HELOC loan limits are typically higher than what you can get with a personal loan. Interest rates are also typically lower.

Each lender has loan limits and you must have enough equity to borrow against.

​These debt consolidation solutions are best for homeowners with:

• Sufficient home equity

• Steady income

• Solid repayment ability

If you’re experiencing hardship, look to other options. 

401(k) Loans

A 401(k) loan is a tool that some people use to consolidate debt. 401(k) loans allow you to borrow against a portion of your retirement savings. Typically, you can borrow up to 50% of the vested balance, or $50,000 (whichever is less).

With this type of loan, you act as both the lender and borrower. Repayments and interest are returned to your retirement account. You must repay the loan, with interest, within five years. Repayment must be made in substantially equal payments and paid at least quarterly.

There are several reasons why a 401(k) loan for debt consolidation is not ideal. Borrowing from retirement savings reduces future compounding potential.

If you leave your job before you repay the loan, the remaining balance typically becomes due immediately.

If you don’t repay a 401(k) loan on time, the unpaid amount and interest are considered an early distribution and are subject to taxes. If you’re under 59 and ½, a 10% early withdrawal penalty also applies.

A 401(k) loan could provide short-term access to cash, but it carries significant long-term financial trade-offs.

Professional Debt Settlement 

Debt settlement is a form of debt relief where you negotiate with your creditors to accept less than the amount you owe. Some creditors may agree to accept payment for less than the total amount owed, and in exchange, they will forgive the rest of your debt.

Anyone can negotiate with creditors to settle their debts on their own. But another option is to hire a professional debt settlement company, like Freedom Debt Relief. 

Here’s how debt settlement works. You’ll make an affordable monthly deposit into a dedicated account. The debt settlement company sets up the account but you own and control it. It’s hard to save up money while you’re also trying to keep up with your bills, so this is the time when most people choose to stop paying their debts. To be clear, if you stop paying your debts, you should expect collection efforts and credit score damage. Creditors could even sue you, but some are willing to hold off on filing a lawsuit once they know you’re actively working on a debt settlement plan.

Expert negotiators do the heavy lifting to work out agreements with your creditors. Once an agreement is reached, the debt settlement company sends it to you for your review and approval. If you approve, the creditor is paid from your dedicated account. The debt settlement company’s fees are paid from the same account.

This debt relief solution may be a good fit for people who can’t afford to repay their debts in full and want to avoid filing for bankruptcy. Many debt relief clients settle their first debt within a few months. It’s possible to complete the debt settlement process in as little as two to four years.

Debt settlement impacts your credit score. Settled debts can show on your credit report as “settled,” which indicates that you only repaid a portion of your debt. A settled account is less damaging than an open collection account.

The goal of debt settlement is to achieve long-term financial stability. For those struggling to keep up with multiple debts, this debt relief resource can offer a path forward. 

Debt Management Plans

Debt management plans (DMPs) are guided plans that could make debt repayment more manageable. DMPs are typically offered through nonprofit credit counseling agencies. Through a DMP, a credit counselor can help negotiate lower interest rates and consolidate unsecured debts into one monthly payment.

You’ll pay the credit counseling agency every month, and they pay your creditors directly. Having a single streamlined monthly payment could help reduce debt stress.

DMPs are designed to repay debts in full, potentially with reduced interest and waived fees. Once enrolled in a DMP, you’ll typically repay the full amount owed over a period of three to five years.

Monthly payment amounts can be high. However, if you can afford the steady monthly payments, a DMP could make repaying your debt more manageable.

​It’s essential to keep up with your monthly payments once enrolled in a plan. Missed payments could remove the negotiated interest rate deductions and may cause the plan to fail.

You’ll need to stop using credit cards included in your plan, and you’ll likely be asked to close any active credit card accounts not enrolled in your plan to avoid accumulating more debt. 

Debt consolidation vs. debt settlement 

Debt consolidation and debt settlement differ in their approach, even though they both involve making a single monthly payment toward multiple debts.

Debt consolidation replaces multiple smaller debts with one new loan. You’re responsible for repaying your debt in full. Debt consolidation is for someone who can qualify for a new loan or credit card, and who can afford to repay the debt.

Debt settlement means asking your creditors to accept less than you owe and forgive the rest. Debt settlement is for someone who can’t afford to repay their debts fully due to a financial hardship. There is no minimum credit score required for debt settlement.

How to Evaluate Your Debt Consolidation Options

As you evaluate debt consolidation options, be sure to consider your current lifestyle so you can determine the best debt repayment strategy for your situation. There are many ways to consolidate debt, but not every solution will be the right fit for you. 

Consider your income, credit score, total debt, whether you’re a homeowner, and your ability to repay your debts as you think about which debt consolidation method is the best fit for your needs and goals. 

You should also consider long-term affordability and financial stability. Take some time to calculate the total cost of your current debt repayment and compare that cost to the total cost of the debt consolidation method that you choose. 

Finally, make sure you can afford to make regular payments on your consolidated debt and that you can follow through with the plan that you make to avoid going deeper into debt. 

If you need help evaluating your options for debt relief, Freedom Debt Relief is ready to help. Learn more about how Freedom Debt Relief works and get answers to some frequently asked questions.