Unfortunately, debt has become a way of life in the United States, with American consumers owing an overwhelming total of $11.68 trillion as of April 2014. That debt comes from multiple sources, including credit cards, mortgages and student loans. If you’re struggling to manage your multiple debt payments, you may want to consider debt consolidation.
Why debt consolidation is important
Managing debt from several sources can get complicated quickly. With so many bills due at different times of the month, even the most careful borrower may accidentally miss a payment. In addition, you may struggle to pay off multiple high-interest debts and high monthly payments.
Debt consolidation involves taking out a single loan to pay off your various debts so you only have one easy-to-manage monthly bill to pay. Ideally, you’d also lower your interest rate and monthly payments in the process. If you can reduce your interest rate and total monthly payment, you can pay off your debt more quickly and consistently, lowering the risk of additional interest charges, late fees and a damaged credit score.
When to consider debt consolidation
Debt consolidation is worth considering if it can help you eliminate debt faster or pay bills on time. Keep in mind that debt consolidation won’t make your debt disappear, so it’s important to have a regular income and stick to a budget that gives you a financial cushion to make your payments.
Consolidating your debt is also beneficial if you need to lower your monthly payments. But because that requires that you extend the term of your loan, you’ll also want to assess whether you can contribute more than the monthly minimum to ensure you don’t end up paying significantly more in interest over time.
If you have high interest rates on multiple debts, you may also benefit from loan consolidation. But before you apply, you should check your credit score. If you have a low credit score, you may not be able to lock in a low interest rate that will make your debt consolidation worthwhile.
You’ll need to have enough cash saved to offset any fees that come with your new loan agreement. Fees may include balance transfer fees, closing fees and origination fees.
It’s important to do research before settling on a debt consolidation strategy. An amortization tool is an easy way to compare scenarios with various loan terms and and interest rates. As you research your options, use the tool to figure out what works best for your situation.
How to consolidate your debt
There are many ways to consolidate your debt. The following are a few options worth considering:
Credit card balance transfers
Some credit cards allow balance transfers with 0% interest for an introductory period, usually anywhere from six to 18 months. You can expect to be charged a balance transfer fee of 1% to 5% of the amount transferred. Your card may or may not have a maximum amount allowed for balance transfers, but usually you can only transfer debt within your credit limit, and that total should include your transfer fee.
Home equity loans
Mortgage rates are holding at near historic lows, but as the economy improves, those rates will rise. That means you may not have much time to take advantage of this window of opportunity and let your home equity work for you. Be aware that home equity loans aren’t for everyone, though. You’ll need a steady income, because defaulting on your payments can lead to foreclosure on your home.
Roberta Pescow writes about personal finance, insurance and banking for NerdWallet. She previously was a home and garden writer for IdealHomeGarden.com and has articles syndicated on over 200 websites nationwide.
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