What is the best way to consolidate debt?

What is the best way to consolidate debt? 

Having multiple credit card debt with different balances, interest rates and due dates can surely drive you crazy. Wouldn’t it be nice if you only had to deal with one monthly payment to settle your debt? This exactly what debt consolidation can offer you.

But what is the best way to consolidate debt? In this article, you will learn about the different ways to consolidate debt.

Before you go and jump into consolidating your debt, ask yourself these three important questions:

  1. How much do I owe?
  2. What assets do I have that I can I liquidate?
  3. What is my credit score?

You may have heard of a friend, family member or colleague who has consolidated their debt and now have a single monthly payment to pay off the large debt they have acquired. Debt management may help you conquer your debt and effectively manage your household expenses, however, you have to find out where to get a large lump sum loan to consolidate your debt and with all the options available, you have to determine which one would work for you best.

As mentioned, there are many options available to consolidate your debt, which will be discussed in this article. The best ones should be able to provide you with the following:

Are you ready to increase the money in your pocket?

  • Free consultation
  • Low or no “processing” fees or upfront payment
  • Minimal impact on your credit score
  • Easy, hassle free program enrollment
  • Provides a financial peace of mind
  • Offers a way to settle your debt in 3-5 years.

Let us now discuss the best ways to consolidate debt:

  1. Borrow money from family or friends

This is one way to consolidate your debt. Do you have a family member or friend who is financially well off to be able to lend you money to pay off your debt? If you do, are you comfortable to ask them for money?

If you decide to go this route, you should be willing to be sit down with them an lay out your cards. Let them know about the amount you owe, your budget, your proposed interest rate and monthly payment and how long it would take for you to pay off the loan. You have to be open and honest about your intent to pay them back and the manner by which you will do it. 

Consider these pros and cons of borrowing from family or friends:

Pros:

  • No forms to fill, no screening
  • Low to no interest
  • Flexible payment terms
  • No negative impact on credit score
  • No origination fees

Cons:

  • May damage your relationship with your family member or friend, especially when you default on your payment
  • Privacy issues. Letting a family member or friend to know about your financial situation can be a little uncomfortable.

Are you OK removing monthly interest payments?

Is this the best option for you?

Borrowing from family or friends to consolidate your debt may be the best option for you if you have someone with enough financial resources to help you out. Someone who is willing to lend you money, with little or no interest and to be understanding if you miss a payment due to an unforeseen event or emergency. Usually, repayment terms are more affordable with longer repayment period. 

2. Debt Consolidation using a Personal Loan

Applying for a personal loan for the purpose of debt consolidation is another option you may choose to manage your debt. This entails borrowing an amount of money from a bank or credit union which you will use to pay off several small and/or high interest rate debts. This will now provide you with a single monthly repayment amount with a fixed interest rate over an agreed period of time, usually ranging from 12 to 60 months. 

Personal loans are unsecured loans, which means you do not need to provide a collateral to borrow a specific amount. Defaulting on a personal loan will not make you lose any of your assets, however, you may end up being sued by your creditor and in turn put a lien on you salary. Interest rates for this kind of loan may vary according to your credit score and loan amount.  

The pros and cons of choosing this option are as follows:

Pros:

  • One fixed monthly payment for the duration of the repayment term
  • There are lots of banking institutions and/or credit unions that offer personal loans so feel free to shop around to determine which one would give the best offer

Do you want more money at the end of each month?

Cons: 

  • Lending institutions thoroughly review an applicant’s financial background and their capacity to pay. 
  • Approval and interest rates will depend on your credit score

Is a Personal Loan a Good Idea for you?

After doing your research and weighing out all the information you have obtained, a personal loan is a good idea if you can secure an interest rate that is lower than the average interest of all your current debts. 

3. Home Equity Loans

Home equity loans are a secured type of loan wherein you borrow money against the equity you have on your home. Home equity loans offer the lowest interest rates, usually between 3% to 5% and have the longest repayment terms of up to 30 years. This would mean lower monthly payments compared to other options for debt consolidation.

Where do you find lenders that accept home equity? Home Equity lenders are usually banks, credit unions, mortgage brokers or online lenders. The amount and interest rate of the loan amount will depend on three factors – your credit score, the amount of equity you have, and your debt to income ratio. Some home equity loans have fixed monthly payments and interest rates while others have variable rates with a fixed repayment period. You can also opt to do a interest only payment up to the first 10 years of the repayment term.

Pros:

  • Low and stable interest rates
  • Interest paid on the loan is typically tax deductible
  • Set payment schedule 
  • Credit card debt is resolved, credit score improves

Cons:

  • You may risk losing your home if you default on your payments

If you think this would be a good idea for you, make sure that you own more than 20% in equity. Another important factor to consider is that once you have been approved for a home equity loan, you should make a commitment not to add more debt. Home equity loans are the most affordable option for you to get out of debt so you must exercise diligence in making your monthly payments on time and avoid impulse spending. 

4. Credit Card  Balance Transfer

Credit card balance transfer is another option you can look into. It works by transferring a high interest credit card debt into a new credit card with a lower interest rate. Credit card balance transfers usually offer an introductory offer of 0% interest for up to 18 months. This alone can help save you money and bring down your debt. However, you should be aware that you may be charged a balance transfer fee, usually in the rate of around 3% or your total balance. 

You can search online for banking institutions that offer low or zero interest credit cards. You can also contact your current creditors and ask if they can match the offer you received from a different bank. No harm in trying!

Are you ready to increase the money in your pocket?

Pros:

  • Easier approval compared to personal loans. 
  • A zero percent interest rate during the introductory period can save you a lot of money and pay off your debt.

Cons:

  • The zero percent interest rate is only for an limited time, hence the term “introductory” period. After this period, your interest rates revert to the lender’s usual interest rate. You must be aware that any debt unpaid after the introductory period will be subjected to regular rates.
  • There are transfer fees involved. 
  • It does not wipe off your debt, you only moved it to a different lender.

Is Balance Transfer a Good Option?

Balance transfer will work for you and help you save a significant amount of money on interest. That is, if you qualify for a low to no interest introductory offer. If you think you can pay off your debt before the introductory period expires, then this is a option you should consider. 

5. Setting up a Debt Management Plan through Credit Counseling

Credit counseling is another option for you to pay down your debt. Credit counselors speak with creditors on your behalf to get better terms such as lower interest rates and more affordable monthly payments. Credit counselors will set up a debt management plan which you will adhere to the letter. You still have the benefit of having to make only one monthly payment, however, this payment will be forwarded to your credit counselor who will distribute payments to your creditors. With this option, you are required to close all your credit cards, live on a budget, and repay your debt in 3 to 5 years.

Getting approved for a debt consolidation through this option is not a walk in the park though. Credit counselors can only do as much when bargaining for lower interest rates with your creditor, which means it still depends on the terms that your creditors will offer. There is also the issue of a debt to income ratio. If you make too much money, you may not be approved. On the other end, if you make too little, your credit counselor may advise you to file for bankruptcy instead.

Pros:

  • The only requirement to avail of this option is that you should be earning enough income to cover your bills/payments
  • Not limited to credit card debt. Other types of debt such as medical bills, rent, unsecured bank loans, etc. are also accepted.
  • No minimum monthly payment
  • Repayment period is set at a maximum of 5 years

Cons:

  • You can no longer use your credit cards or apply for new ones while under the program
  • There is a monthly service fee if you avail of this option.

When is this a good option for you?

Are you ready to give up your credit cards? Stick to a serious, workable budget? Do you want to benefit from lower interest rates and be debt free in 3-5 years? If your response is yes, then Credit counseling and Debt Management will most likely work for you. This would allow you to pay off your debt without having to take out another loan, and you get to have the guidance of a counselor to help you effectively manage your finances.

Do you want more money at the end of each month?

6. Take out a Loan against your 401(k)

Taking out a 401(k) loan is an option offered for those who have this through their work. You may borrow up to 50% of the amount you have already saved, however, you have to pay this back through salary deduction for a period of up to 5 years. 

Pros:

  • There is not credit check required because you are borrowing against your retirement fund

Cons:

  • You have to pay back the amount you borrowed with interest.
  • Defaulting on your repayments for your loan against your 401(k) may trigger taxes and penalties because this will now be considered as “income.”

Is this the best option for you?

Taking out a loan from your 401(k) is a good option for those who are still young and have decades to save money before retirement. If  you find that the salary deduction for your monthly repayment is affordable, then this may be the best option for you. 

7. Borrowing from your Life Insurance Policy

This is not a common option for loan consolidation. This involves borrowing against your life insurance policy. You can borrow up to the entire cash value of your policy and use the money to pay off all your current debts and then repay the amount back. However, with this option, you have the choice whether to pay back your loan or not. The downside of it is that if you don’t, your death benefits will be greatly reduced, or may not have any at all to leave to your surviving family.

Pros:

  • If your priority right now is paying off your debts and having that peace of mind of being debt free, then this may be a good idea.

Cons:

  • You may put your surviving family in a perilous situation if they will not be able to claim any life insurance in the event of your death.

When is borrowing from your life insurance policy a good idea?

This option is a good idea only if your policy has a significant cash value which will ensure your family’s survival in the event of your passing. If your family can cope with a reduced or no pay out of your insurance, then this may be an option you can consider. If you have to choose between this option and bankruptcy, borrowing against your life insurance policy will be the better choice if no other of the above-mentioned options are feasible. 

Do you want more money at the end of each month?

8. Debt Consolidation Through Payday Loans

Payday loans are high interest, low dollar amount loans that are required to be paid back in a short period of time. This is not a good choice when taking out a loan for debt consolidation. 

Pros:

  • None

Cons:

  • Has no advantages over the other above-mentioned options for debt consolidation
  • Expensive (high interest)
  • Risky – Can make your financial situation worse.

This is not recommended if your current cash needs are less than $1000. There are other options where you can ask for assistance for paying utility bills, buying food or paying rent.