Is debt consolidation a good idea for me?

If you have lots of debts, like loans, credit cards, and overdrafts, you might find it hard to manage your payments. Debt consolidation, where you put all the money you owe into one loan, may seem like a way to make things easier.  But it’s not always the best choice for everyone. Here, we look at when debt consolidation can help, and when you might want to look at other options.

How debt consolidation works

Debt consolidation is when you get a new loan to pay off all your other debts. Instead of making multiple payments to different lenders, you’ll just pay back one loan to one company. 

There are two types of debt consolidation loan:

  • Secured - This is when the amount you’ve borrowed is ‘secured’ against something you own - usually your home. This means if you can’t make your payments, the lender could take your home.
  • Unsecured - This is when the loan is not secured against something you own. These loans usually have higher interest rates than secured loans. 

When is debt consolidation helpful?

Whether debt consolidation is right for you will depend on your personal financial situation. Before you decide, it’s a good idea to think about all the options you have, and you may want to talk to a free debt advisor (some are listed at the end of this guide). 

Let’s look at some situations where debt consolidation could be helpful: 

Managing multiple debts

If you’re juggling multiple debts with different due dates, interest rates and payment amounts, debt consolidation could help in these ways:

One payment

  • When you consolidate your debt into one loan, you’ll only need to make one payment each month, usually on the same date
  • This may be easier and less stressful for you to manage
  • It could help you budget as you know the amount you’ll pay every month

Clear end date

  • You’ll know exactly when you’ll finish paying off your debt

Boost to your credit score

  • If having one payment helps you pay on time each month, this could potentially boost your credit score over time

One lender

  • If you consolidate your debts into one loan, you’ll only need to pay back one lender
  • This could save you time and stress because you only have to talk to one company if you have any questions or problems 

Facing several debts with high-interest rates

If you owe money to different lenders with high interest rates, consolidating your debts into one loan with a lower rate could save you money. 

Here’s a step-by-step example of how this works: 

  1. Let’s say you currently owe a total of £5,000. You’re paying an average interest rate of 20%, and you need to pay your debts off in 3 years.
  2. Now, if you put all your debts into one loan with a 15% interest rate, and still pay it off in 3 years, you’d save £750 in total interest. 

So, by putting your debt into one loan with a lower interest rate, you could save money and this may improve your long-term financial situation.  Try shopping around on price comparison websites to see what interest rates you’re offered, without harming your credit score. 

Planning to get out of debt

Debt consolidation can give you a straightforward plan for getting out of debt.  

This is unlike credit card payments, where opting to make minimum payments could keep you stuck in debt for a long time. That’s because minimum payments decrease as your balance goes down, which makes it hard to make progress clearing your debt. You’ll also need to avoid the temptation of making more purchases with your credit card if you’re trying to pay off your debt.  

With a debt consolidation loan, it’s different. You have a fixed repayment plan. As long as you make your payments in full each month, you’ll steadily pay off your debt within the set timeframe. So it could be a simpler and more structured route out of debt.

When debt consolidation may not be the best idea

As with any financial product, there are pros and cons to debt consolidation. It may not be the best idea to consolidate your debt in the following situations:

Higher interest rate

If you have a poor credit history, for example because you missed payments to lenders in the past, you may not be able to access a lower interest rate on the new loan than what you’re paying now. 

Similarly, there could be other options where you can get a lower interest rate than with a debt consolidation loan. For example:

  •  0% balance transfer cards – These allow you to shift your existing credit card debts to a new card with a 0% interest rate for a fixed period (usually around 2 years) 

If you can pay off your debt before the 0% period ends, using a balance transfer card could save you money. But, after the interest-free period ends, the interest rate on these cards generally increases significantly. So, if you don’t think you’ll be able to clear the debt in time, this may not be the best choice for you. 

Total cost is higher

Look at the total amount you’ll end up paying if you consolidate, including: 

  • Any fees for paying off your current debts early (ask your lenders)
  • How long the new loan will last 

Even if the interest rate on your new loan is lower, spreading your payments over a longer time could cost more overall. If the total cost of consolidating is higher, it may not be the best option for you. 

Issues with money management

If you struggle with overspending, and haven’t addressed these habits, debt consolidation could be a risky tool. This is because it doesn’t tackle any underlying issues with debt. 

For example, you may use your new loan to pay off your existing credit card debt and then continue spending on your credit cards. This could lead you to being further in debt.  

Other debt solutions

If you can’t afford the minimum repayments on your debts, you may want to look at other debt solutions, for example:

  • Debt management plans
  • Individual voluntary arrangements
  • Debt relief orders
  • Bankruptcy

It’s worth speaking to a debt advisor about the impact these debt solutions may have on you and your financial situation. 

Where to get help if you’re struggling with debt

There are organisations set up to give free, impartial debt advice. They can offer you help if you’re struggling with debt.

You could reach out to:

Where to get a debt consolidation loan

If you’ve decided that it’s right for you, explore credit union debt consolidation loans.

Published on

07th March 2024



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