What Debt Consolidation is and How to Get Started

Written by Banks Editorial Team
4 min. read
Written by Banks Editorial Team
4 min. read

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Debt consolidation is a strategy that simplifies debt repayment and can help you save on interest. Plus, it’s easy to get started when you have a good credit score. So let’s have a look at how you can access the lowest rates for the current debt you have and the different debt consolidation options available, even if you have a bad credit score.

What Is Debt Consolidation?

Debt consolidation is a strategy that helps consumers gain control of their credit card debts and other unsecured debts. 

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What Are Debt Consolidation Loans?

Debt consolidation loans allow you to pay off your debts faster by granting you a set loan term and a lower interest rate than what you’ll find with most credit cards. If approved, you will use the loan proceeds to pay off your debts, then make monthly payments for the duration of the loan term according to your agreed repayment plan. Ideally, you will pay off your credit card balances in a fraction of the time you would spend if you continue to make minimum payments each month. Plus, you’ll save a bundle in interest. 

These loan products are most suitable for consumers with good or excellent credit. A strong credit score allows you to qualify for the most competitive interest rate. 

Word of caution: refrain from using the credit cards you pay off with the loan proceeds, or you could find yourself buried in more debt. 

What’s the Difference Between Debt Consolidation and Debt Settlement?

Although the terms debt consolidation, and debt settlement, are often used interchangeably, they are quite different. 

  • Debt Consolidation: When you consolidate your debts, you merge all the balances into a single loan product with a more competitive interest rate. The key benefit is that you’ll make monthly payments throughout the loan term instead of minimum monthly payments to your creditors since your cards will already be paid in full. You will also eliminate your debt faster.
  • Debt Settlement: If you choose to settle your debt, you could pay a fraction of what you owe to your creditors after negotiating with them. If you don’t want to do it yourself, debt settlement companies can help you negotiate with creditors. It is important to note that debt settlement could have serious implications for your credit, and you may have to claim a portion of the forgiven debt on your tax return. 

Can Debt Consolidation Hurt Your Credit?

A debt consolidation loan can improve your credit, assuming you refrain from using the paid-off credit cards. Why so? When you eliminate the balances by moving them to the loan, your debt utilization will decrease, which is good news for your credit score. 

If you have questions on how a debt settlement program may affect your credit score, Freedom Debt Relief conducted a 4-year study on the clients who completed their debt relief program using the help of the top 3 credit bureaus. They concluded that the clients’ credit score declined over the first six months of enrolling in the program, but their credit score improved over time as the debt reduced. The study also points that people who completed the debt relief program developed better financial habits.

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How Debt Consolidation Works

Assume you have the following credit card balances: 

  1. Credit card #1: $250 balance, 15.9% interest rate, $15 minimum monthly payment,18-month balance payoff term, and $34.34 in total interest paid 
  2. Credit card #2: $500 balance, 17.9% interest rate, $20 minimum monthly payment, 42-month balance payoff term, and $172.10 in total interest paid 
  3. Credit card #3: $700 balance, 19.9% interest rate, $28 minimum monthly payment, 58-month payoff term, and $343.49 in total interest paid

If you get approved for a $1,450, 36-month debt consolidation loan with a 7% interest rate, your monthly payment will drop from $63 to $45. Even better, you will only pay $162 in interest. 

Types of Debt You Can Consolidate

Credit cards are the most common form of debt consolidated by consumers. But you can also consolidate other forms of unsecured debts, including credit card balances, department store credit debt, medical bills, and personal loans. However, secured debts, including auto loans, mortgages, federal student loans, utility bills, and debts associated with lawsuits and taxes generally aren’t eligible for debt consolidation. 

Alternatives to a Debt Consolidation Loan

Have you applied for debt consolidation loans and are having trouble getting approved? Or maybe you’d prefer to explore other options? Either way, here are some different types of debt consolidation tools that may be a good fit: 

  • Balance transfer credit card: If you have good or excellent credit, you may qualify for a balance transfer credit card with zero interest for 6 to 24 months. To save interest, you can transfer the balances from your high annual percentage rate cards to the new card. But you should have a plan of action to repay what you owe before the promotional interest period ends. A balance transfer fee between 3% and 5% may apply, and you should pay the balance in full to avoid accruing interest on the new card. 
  • Home equity line of credit (HELOC) or home equity loan: Tap into your home’s equity to take out a HELOC or home equity loan. You can use the funds to pay off your credit cards and make monthly payments until you pay off the loan. The interest rate is usually far lower on these products, and you should have good credit to give yourself the best shot at qualifying. However, a significant downside is putting your home at risk for foreclosure if you fall behind on your loan payments. There are also closing costs and other fees to keep in mind.
  • Debt management plan (DMP): These plans are offered by nonprofits for debt-distressed consumers. You can enroll and have a debt counselor negotiate the terms of your debts with your creditors. They may be able to secure a lower interest rate or monthly payment for you. In turn, you will pay them directly each month, and they will pass the funds on to the creditors until the debt is paid off. You must also agree, in most cases, to close your credit card accounts. 
  • Debt settlement program: If you’re overwhelmed with debt and don’t see a way out, consider a debt settlement program to lend a helping hand. They will work with your creditors to reach an agreed-upon settlement account for less than what you owe to settle your outstanding unsecured debt. These programs can hurt your credit score, but you can rebuild it with time and finally say goodbye to those pesky debt balances, as well as coach you to develop better financial habits.

How to Get Started with Debt Settlement with Freedom Debt Relief

If a debt settlement program fits your needs, reach out to Freedom Debt Relief to learn more about what they have to offer. Debt consultants are available by phone or online to answer any questions you may have, review your financial situation, and discuss how they may be able to assist you. Submit a simple online form to book your free consultation with them.

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