How to Consolidate Debt: 5 Ways to Do It Right

What is debt consolidation?

When you have unsecured debts from various sources, you may end up paying hefty interest rates on each balance. The idea of debt consolidation takes all your debts (for example, from credit cards, medical bills, or personal loans) and consolidates them into one place. Ideally, this reduces your interest payments and makes it more manageable to pay off your debt. 

Learn your FICO credit score before deciding on which debt consolidation route to explore. Many options are made more affordable with a higher credit score. 

Follow this guide to learn our 5 best ways to consolidate debt.

1. Balance transfer card

Moving credit card debt from one card to another may not seem like a good option. However, if you can get the debt of multiple cards onto a single balance transfer credit card, you may enjoy the financial benefits of your consolidated credit cards. 

A balance transfer card typically doesn't charge interest for at least 12 months for a promotional period. But keep in mind you may need decent credit to qualify. Some cards will charge a transfer fee. 

Make sure that if you qualify for the card, you calculate if the money saved from the no-interest period outweighs any balance transfer fee the card charges. While having all your debt on one card simplifies the process, you'll want to get your balance cleaned up before the promotional period ends, as you may get stuck with a higher interest rate when the promo ends and the interest kicks in.

2. Personal loan

If you have good credit, you'll likely be able to get a personal loan from a traditional lender, like a bank or credit union, and move all your debt into one place. These debt consolidation loans can help you obtain a lower interest rate and consolidate direct payments to your creditors. There may be fees associated with starting the loan, and if your credit is suboptimal, it may be tough to secure a low-interest rate. 

Going the personal loan route also encourages you to shop around for the best interest rate — the better your credit, the more options you'll have — and you'll likely have the option of paying off the loan before the payoff date without additional fees. 

3. Home equity loan

If you've built equity into your home, taking out a line of credit on your house allows you to borrow against the value you've earned and pay off your debts. Of course, you'll need to start paying back your home equity line of credit too, but that can come with either a fixed interest rate for a home equity loan or a variable rate with a line of credit from your bank, secured by your home. 

You don't want to get behind on a line of credit, though, since the debt is secured by your home. 

4. Borrowing against your 401(k)

One of the riskier options for debt consolidation is borrowing against your 401(k). This can allow you to borrow without worrying about your credit score. Not every 401(k) plan has the option to take a loan against your vested balance. Still, if you have the opportunity, you can often get half of your balance in a loan and be given five years to pay it off with a relatively affordable interest rate. 

Of course, you'll face penalties if you don't repay it, potentially negatively impacting your retirement ability. You could even be required to pay it back sooner than expected if you lose your job. 

This is a last-resort style option for many people. You could also choose to simply withdraw money from your 401(k) instead of taking a loan against it, but in that situation, you'll be hit with financial penalties and deplete your retirement.  

5. Enter a debt management program

Various nonprofit groups and credit counseling agencies may assist with a debt management plan. In this scenario, the organization helps you get a fixed monthly payment on your debt, often significantly reducing your interest rate, and sets up a repayment plan that can last between three and five years, all without hurting your credit score. 

Keep in mind, the services often come with a startup fee and a monthly fee, but your credit score isn't a factor in the process. You aren't entering into a loan, but rather an agreement with your creditors to pay back the money owed. 

Making the debt consolidation decision

Before you decide how to consolidate your debt, add up all your current debts and interest rates. Determine your options based on your credit score, mortgage situation, and retirement fund. At this point, you'll have a better understanding of exactly how much you owe and how much you could save in interest from each of the options.

The information and content provided herein is for informational purposes only, and it is not to be considered legal, tax, investment, or financial advice, recommendation, or endorsement. You should consult with an attorney or other professional to determine what may be best for your individual needs.