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Results for How does debt consolidation work?
Debt consolidation combines multiple debts, such as credit card balances or loans, into a single new loan or account with one monthly payment, often at a lower interest rate to simplify repayment and potentially save on interest.1236
How the Process Works
The standard steps, consistent across most sources, are:
- Calculate total debt: List balances, interest rates (APRs), and minimum payments for debts to consolidate, like credit cards or medical bills. Aim for a new loan with a lower average APR (typically 7%-36%).124
- Check credit and eligibility: Review your credit score, income, and debt-to-income ratio, as higher scores qualify for better rates.12
- Apply for a consolidation loan: Submit personal details, debt info, and loan amount/term (usually 1-7 years).1236
- Receive funds and pay off debts: Lenders disburse a lump sum (often within 1-7 days); use it or let them pay creditors directly to zero out old balances.1246
- Repay the new loan: Make fixed monthly payments until paid off; on-time payments can improve credit by lowering utilization.127
Common Types of Debt Consolidation
| Type | Description | Repayment Terms | Collateral Needed | Credit Score Needed |
|---|---|---|---|---|
| Personal Loan | Unsecured installment loan to pay off debts; fixed rate and payments.346 | 1-7 years16 | No6 | Good or better6 |
| Balance Transfer Credit Card | Transfer debts to a new card with 0% intro APR.6 | No set term6 | No6 | Good or better6 |
| HELOC | Home equity line of credit; draw funds as needed.36 | Draw (up to 10 years) + repayment (20-30 years)36 | Yes (home)6 | 680+6 |
| Debt Management Program | Agency negotiates lower rates; one payment to them.58 | Varies5 | No8 | Varies5 |
Potential Benefits and Considerations
- Savings example: Consolidating $8,000 in credit card debt at 16-25% APRs with minimum payments could cost $12,000+ in interest over decades; a 5-year loan at lower rate saves ~$9,800 and pays off in 60 months.4
- Confirm the new rate is lower and payments fit your budget to avoid longer debt.24
- Closing old accounts may temporarily dip credit scores, but overall utilization drops help long-term.7
- Not ideal if you can't secure better terms or face fees/prepayment penalties.5