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Debt Consolidation: Is It Worth It?

Debt consolidation can be a great way to lower interest and streamline debt repayment. But is it always worthwhile?

Author Justin Cupler
Contributing Writer at Tally
July 14, 2021

When you take on a lot of high-interest debt, especially revolving debt like credit cards, things can get a little challenging to manage. However, there are tools to help you through these times, including debt consolidation

Debt consolidation is a financial tool you can use to pay off multiple high-interest debts in hopes of lowering your interest rate, monthly payment amounts and the overall number of monthly payments you make.

Is debt consolidation worth it for your financial situation? We’ll go over how to analyze your personal finances to determine this. But first, let’s review the various types of debt consolidation. 

What are My Options for Consolidating Debt?

Debt consolidation is an umbrella term covering a wide range of strategies designed to reduce your number of monthly payments, get you a lower interest rate and become debt-free in a shorter period. Here are some of the options you have to reach those goals.

Traditional debt consolidation loan

A traditional debt consolidation loan is a personal loan you can get from a bank, credit union or online lender. You can use it to pay off multiple credit cards. This loan typically has a lower interest rate than a credit card, which can save you money. Unlike credit cards, it’s an installment loan with a fixed payoff date.

Generally speaking, this is what borrowers are talking about when they mention debt consolidation. 

Home equity loan

If you own a home, it generally appreciates in value as you pay down the balance on your mortgage. This positive balance between the home’s value and the mortgage amount is your home’s equity. 

A home equity loan (HEL) taps into your equity and gives you a loan using your home as collateral. You can use this low-interest loan to pay for virtually anything, including debt consolidation. The big downside to a HEL is your home is on the line — if you default on the loan, the lender can foreclose on your property. 

Home equity line of credit

A home equity line of credit (HELOC) is similar to a HEL, but instead of being a lump sum loan, it’s a line of credit you can draw from as needed. You can draw funds from the HELOC to pay off credit cards during the draw period, typically between five and 10 years. 

The bank typically requires interest-only payments on the amount of money you draw from the account during the draw period. Once the period closes, you can no longer draw from the HELOC, and you’ll start making principal and interest payments on the outstanding balance of the account. You can start making principal and interest payments any time before the draw period ends as well. 

Like a HELOC, your home secures this debt, and the lender can foreclose if you default on repayment

Personal line of credit

Is debt consolidation worth it: A couple meets with a lender

Want the benefits and flexibility of a HELOC without risking your home? A personal line of credit could be a good alternative. This unsecured debt will give you the same ability to draw as much or as little as you need — up to your credit limit, of course — to pay off debt.

Balance transfer credit card

A slightly less orthodox debt consolidation option is a balance transfer credit card. These credit cards offer low interest rates — sometimes as low as 0% APR — on transferred balances from other credit cards for a fixed period, typically six to 18 months. 

So, if you transfer a $5,000 balance from one credit card to a 0% APR balance transfer credit card with an 18-month promotional period, you’ll pay $0 in interest charges for 1.5 years. However, most balance transfer cards charge a 3% to 5% balance transfer fee, so in this example, you’d pay a $150 to $250 fee for the transfer. 

While the interest you save normally makes that balance transfer fee worth it, the big downside to a balance transfer card is you’ll start paying normal interest rates once the promotional period ends. 

Is Debt Consolidation Worth It?

When determining if debt consolidation is worth it or not, your credit report and credit score will play a big role. An excellent (800 or higher), very good (740 to 799) or good credit score (670 to 739) could give you the best loan terms

However, as you fall into the fair (580 to 669) and bad (579 or lower) credit tiers, your options become limited, making debt consolidation harder. 

Here are some key determining factors to determine if debt consolidation makes sense based on your financial situation

Considering types of debt 

The first variable to consider is your current debt types, as debt consolidation is generally only helpful when dealing with high-interest unsecured debt. Low-interest secured debt, like an auto loan, student loans or mortgages, generally have a lower interest rate than most debt consolidation loans

A HEL or HELOC may have a lower interest rate than some secured debts, but this can stretch your payments out for a decade or longer. 

However, if you have a handful of high-interest credit cards and a few high-interest personal loans, debt consolidation may be a good option for you. 

Checking the loan terms

A smiling woman looks over her loan terms

In some cases, a debt consolidation loan may look like a great option because of its lower monthly payment, but double-check its interest rate and loan repayment terms, as these can impact the overall loan cost. Some debt consolidation companies make their product seem more affordable by offering a lower interest rate over a longer term, resulting in a lower loan payment.

With these stretched terms, you may end up paying significantly more interest than you would have with your credit card

For example, if you pay off a $5,000 balance on a 17% APR credit card balance with a seven-year debt consolidation loan at 15% interest, you’ll pay $96.48 per month. If the credit card has a 3% minimum payment, you’ll pay $150 per month to keep the debt on the credit card.

The lower monthly payment on the consolidation loan seems like a great deal, right? Not quite. That debt consolidation loan will take 84 months to pay off, and you’ll pay $3,104.64 in interest. If you make just the minimum credit card payment, you’ll pay it off in 46 months and pay just $1,815 in interest. 

So, when seeking debt consolidation options to help reduce overall costs, always check the lifetime interest charges listed in the loan terms and use a credit card calculator to determine if you’re actually saving on interest. 

Watching out for fees

Many debt consolidation companies charge fees for their loans, and they can really add up. When reviewing a loan offer, always check all the fees for anything that throws off your savings. Look for things like origination fees, underwriting fees and other lender fees. 

You’ll want to add any fees to the total loan cost to ensure you’re still saving money throughout the loan. You’ll generally see higher loan fees from lenders that specialize in low-credit approvals. 

Tally

Considering the number of monthly payments 

In some cases, debt consolidation is more about simplification for you as the borrower. Maybe you have 10 or more monthly credit card payments and struggle to balance them all when combined with your other monthly bills. This is where debt consolidation shines. 

You can pay off all those credit cards with a single loan, line of credit or balance transfer credit card and have only one monthly payment. And even if the loan, line of credit or balance transfer card can’t cover all your credit card debt, you’ll still reduce the number of payments by consolidating a few cards into one payment. 

So, if you’re looking to simply cut the number of payments you’re making per month, a debt consolidation loan could be worth it for you. 

The Debt Consolidation Consideration

A smiling woman looks at a bill

In most cases, consolidating high-interest debts using a debt consolidation loan makes perfect sense. It usually results in a lower interest rate, fewer payments and a lower overall cost, but this isn’t always the case. 

Is debt consolidation worth it for you? It’s critical to review your financial goals and how you want the debt consolidation to help you. Then, compare these goals to the terms and conditions of the loan, including the lifetime interest costs, loan fees and more to answer that question within the context of your finances. 

If you’re looking for a personal line of credit to help pay down your credit card debt, consider Tally’s line of credit1. It can help you pay down higher-interest credit card debt. Plus, Tally’s credit card debt payoff app manages all your credit card payments for you. You make one payment to Tally every month, and it handles disbursing the payments to your credit cards.

1To get the benefits of a Tally line of credit, you must qualify for and accept a Tally line of credit. The APR (which is the same as your interest rate) Will be between 7.90% – 29.99% per year, and will be based on your credit history. The APR will vary with the market based on the Prime Rate.