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When You Should (and Shouldn't) Consolidate Your Debt

What is debt consolidation? We examine the reasons why you should — or shouldn’t — consolidate debt.

September 1, 2021

Struggling with debt can be immensely stressful. If you’re juggling multiple debts or finding it difficult to get ahead due to high interest rates, any solution that claims to offer relief is likely to look appealing.

Debt consolidation is often suggested in these circumstances, but what is debt consolidation? And how can you tell when you should — or shouldn’t — consolidate your debts? Let’s take a closer look.

What is debt consolidation?

Simply put, debt consolidation involves combining multiple lines of debt into a single account. This can help minimize the complexity associated with debt management by reducing the number of payments made each month. It can also save you money if you’re able to consolidate your debts at a lower interest rate or avoid incurring late fees on missed payments.

Although credit cards are some of the most common targets for debt consolidation, virtually any type of unsecured debt can be consolidated, including:

  • Student loans (though federal and private loans may qualify for different consolidation programs)

  • Unsecured personal loans or lines of credit

  • Payday loans

  • Medical or hospital bills

  • Back rent or utility bills, depending on local- and state-specific laws

How does debt consolidation work?

The kinds of debt you want to combine will affect the consolidation vehicles that are available to you, as well as the process you’ll need to follow to use them. Two of the most common approaches include balance transfers and debt consolidation loans.

Balance transfers to 0% or low-interest credit cards

Transferring a credit card balance from one card to another is one of the easiest debt consolidation strategies out there. All you have to do is qualify for the card you plan to transfer your balance to and then arrange the transfer.

Depending on the new card’s provider, you may be able to give details on the balance you want to transfer during the application process. If approved, the balance will be transferred automatically when your new card is opened. If this isn’t an option, you’ll be able to initiate the balance transfer once you’ve logged into your new account or by reaching out to customer service. 

Once the balance transfer is initiated, your new card issuer pays off your old provider and the debt is officially consolidated onto the new card.

Debt consolidation loans

Like credit card balance transfers, you’ll need to qualify for the debt consolidation loan you want to pursue. Debt consolidation can be done with loans that are designated for this purpose, though you can also combine debts by taking out a generic personal loan and using it to pay off your remaining debts.

In some cases, your debt consolidation loan provider will pay off debts on your behalf. If so, be sure to keep an eye on your other accounts, as you may need to make payments if they’re due before the consolidation funds are received. Also, be sure you understand whether the accounts you’re consolidating will be left open or closed, especially if there are any annual fees associated with accounts that remain open.

If you’re pursuing student loan consolidation, specifically, you may be eligible for either a Direct Consolidation Loan (which lets you consolidate multiple federal loans) or student loan refinancing. Although federal and private student loans can be consolidated through student loan refinancing, only federal loans can be consolidated with a Direct Consolidation Loan.

Finally, note that although home equity loans and 401(k) loans could conceivably be used for debt consolidation purposes, this isn’t generally recommended. In the case of home equity loans, using funds secured by your home to pay off unsecured debt could put your home at risk. Taking loans against your retirement causes you to miss out on the benefits of compound interest and may incur tax penalties if you fail to repay your loan on time.

Should I consolidate my debt?

You may be asking yourself, “Is debt consolidation worth it?” This question is a highly personal one that comes down to many factors. Instead, start by asking yourself the following questions:

  • Does my current budget cover my expenses, including regular day-to-day costs and unanticipated emergencies? Consolidating your debt doesn’t mean you have less of it. If your current budget isn’t in the green and you find yourself needing to charge expenses to the credit lines you just paid off, you could end up with more debt than you started with (or than you can afford to service).

  • How close am I to paying off the debts I want to consolidate? Remember, debt consolidation typically comes with either balance transfer or loan origination fees. As a general rule of thumb, if you’re within 6 to 12 months of paying off the debt — or if you only have a small amount of debt to pay off — you may not save enough from the consolidation to justify the fees associated with setting up your new account.

  • How much will I actually save by consolidating? Crunch the numbers. If consolidating means going from a 17.99% to a 17.49% interest rate, for example, the amount you’ll save pursuing debt consolidation will probably be eaten up by the fees you’ll incur.

  • What other steps have I taken to pay down my balances or reduce my interest rates? Debt consolidation shouldn’t be the first step you take toward getting debt under control. Instead, start by finding ways to increase your income or eliminate unnecessary expenses to free up cash you can use to pay down your debt. Depending on your recent credit history, you can also try calling your credit providers to see if they’ll voluntarily lower your rate.

  • Has my financial situation changed significantly since I first took on my debts? If you’ve been working on your finances for some time, you may find that you’re now able to qualify for lower interest rates than before. In this case, debt consolidation makes much more sense than if your credit profile hasn’t improved.

Debt consolidation: good or bad?

Ultimately, debt consolidation isn’t inherently good or bad. It can be a lifesaver for those drowning in debt and can qualify for better terms; for others, it only exacerbates a bad situation by allowing for an increase in total debt.

As you consider the pros and cons of loan consolidation or credit card balance transfers, pay close attention to your circumstances. If it seems like you could benefit from combining multiple high-interest credit card debts, consider Tally’s lower-interest line of credit, which can help qualifying users pay off credit card debt quickly and efficiently.1

1To get the benefits of a Tally line of credit, you must qualify for and accept a Tally line of credit. Based on your credit history, the APR (which is the same as your interest rate) will be between 7.90% - 29.99% per year. The APR will vary with the market based on the Prime Rate. Tally Technologies, Inc. NMLS # 1492782 ( Loans made or arranged pursuant to a California Finance Lenders Law License or other laws in your state.