What Is a Debt Consolidation Loan?

Debt consolidation loans are a practical solution for consumers overwhelmed by both the amount of money they owe, and the number of creditors they owe it to.

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What Is a Debt Consolidation Loan?

A debt consolidation loan is financing used to pay off several high-interest debts with one low-interest loan. It is a strategy to simplify bill paying – and save money -- for consumers dealing with numerous unsecured debts like credit cards, medical bills or personal loans.

Consumers roll their unsecured debts into a single bill and use the consolidation loan to pay off the total amount owed. The advantages are that debt consolidation loans usually carry a lower interest rate and there is only one check and payment date each month.

Banks, credit unions and online lenders are the main sources for debt consolidation loans, but relatives or friends also can be a source. These loans carry a fixed interest rate, with monthly installments, and usually last from 2-5 years, depending on the amount borrowed.

How to Get a Debt Consolidation Loan

Consumers will find debt consolidation loans available at familiar places – banks, credit unions, online lenders – but it makes some sense to do research and comparison shop before using this route to eliminate debt.

It is important to understand that debt consolidation loans don’t eliminate debt. They restructure the debt, hopefully in a more favorable way for the consumer, but you still end up paying back what you owe.

Before looking for a debt consolidation loan, do some homework that should make the process easier and the chances for success much higher:

  • Identify the bills you want to consolidate. Secured debts – like mortgages, auto or boat loans – don’t qualify for consolidation. Debt consolidation loans deal almost exclusively with credit card debt.
  • Examine your budget. How much of a monthly payment can you comfortably afford after taking care of the necessities for housing, food, transportation, etc.?
  • Order your credit report. It’s free and it will note all your debts, including some you may have forgotten.
  • Check your credit score. It’s also available free via numerous online sources. It will be a factor in some of the loan options so know where you stand and be realistic about what to expect.

Make sure when you start comparing lenders that you get the total cost of borrowing from each one. Compare that to your current costs before making a final decision on a debt consolidation loan. If you haven’t lowered your monthly payment and interest rate, a debt consolidation loan is not the right move.

Personal Loans for Debt Consolidation

The truth of the matter is that debt consolidation loans are just another name for personal loans and there are two types available – secured and unsecured – with many variations under each category.

A secured debt consolidation loan – just like a secured personal loan – is backed by collateral such as home, car or property and is the easiest route to consolidation.

Banks and credit unions are good starting points for secured loans. They offer home equity loans at rates that should be substantially less than what you pay the credit card companies. Your credit score is not a factor in the final decision. The amount of equity you have in your home (current value of the home minus what is owed) determines how much you can borrow.

Home equity loan rates in the fall of 2018 were just under 6%. Compare that to the national average for credit card interest in the same time frame, which stood at 17%.

Unsecured loans don’t require collateral. Your home or car is not at risk, but the downside is that you will pay a higher interest rate than for a secured loan.  Sometimes, it’s substantially higher because your credit score is a factor in unsecured loans.

Online lenders like LendingClub, Prosper and SoFi are good places to start the hunt for an unsecured loan. Their rates vary from as low as 6% to as high as 35.99%, with most loans leaning toward the higher side of that equation. Your credit score plays a big part in the rate you receive, so beef that up, if you can.

Secured Loan: positives and negatives

+ Easier to obtain from a lender

+ Higher borrowing amount allotted

+ Lower interest rate

+ Interest may be tax deductible

 Longer repayment terms (higher cost in interest over time)

 Risk of losing collateral such as house or car

Unsecured Loan: positives and negatives

+ No asset risk

+ Shorter repayment term (lower cost in interest over time)

 Harder to obtain from a lender (high risk borrower)

 Lower borrowing amount allotted

 Higher interest rate

 No tax benefits

Using 0% Balance Transfer Cards for Debt Consolidation

The least expensive choice for a debt consolidation loan might be a 0% interest balance transfer card. These cards allow you to transfer the balance from all your credit cards and pay them off with no interest for an introductory period ranging from 6-24 months.

There are three major concerns about balance transfer cards as debt consolidation loans:

  • Will you qualify for one?
  • How much in fees will you pay to get one?
  • And will you be able to pay off the debt before the 0% offer expires?

To qualify, you will need an excellent credit score (740 or higher) for the best deals (18-24 months at 0% interest) and at least a 680 or higher score to qualify for any of the rest (6-18 months at 0% interest).

Any score under 680 and it’s unlikely you will get a 0% interest rate. If you do, the introductory period will be shortened to six months.

There also is the matter of balance transfer fees. Most cards charge 2%-3% of the amount owed. If you owe $10,000 on four or five cards, that means another $200-$300 added to your bill.

Which brings us to the big question: Can you pay off your entire debt in the time frame allowed? If you don’t, the regular interest rate kicks in and the range in the fall of 2018 was somewhere between 14% and 26% on your balance.

Once again, do ALL the math, before deciding this is the right way to eliminate credit card debt.

Benefits of Debt Consolidation Loans

Consolidation loans can be a worthwhile solution for consumers with heavy debt that is spread out over several credit cards. Essentially, a consolidation loan allows you to pay credit card debts in full. A new, large loan replaces several smaller ones.

Taking out a consolidation loan is beneficial in the following ways:

Will Debt Consolidation Loan Affect My Credit Score?

A debt consolidation loan can provide an opportunity to improve your credit score if you use it as a financial plan, as opposed to just shifting debt around. When you take out your consolidated loan, your credit card debt will be paid in full and you will focus on paying down your single, new loan.

If you need to take out a consolidation loan, it is safe to assume that your credit has already taken a hit with delinquent payments. Timely payments on the new loan will start to positively impact your credit rating over time.

If you don’t have a strong credit rating, talk with a credit counselor at a nonprofit credit counseling agency to review other options. They may recommend a debt management program that will help you set up a budget and pay off the debt within 3-5 years.

Be aware that not every financial problem can be solved through a debt consolidation program. There are some situations where debt settlement or even bankruptcy are the best solution to the problem.

Helpful Tips to Remember When Entering into a Debt Consolidation Loan Agreement

  1. Do your research. Different banks offer competitive loan rates and varying repayment terms. Keep your options open. Credit unions, most of which have easy membership qualifications, can contend with the bank’s competitive rates as well.
  2. Stick to a budget. Before you settle on your consolidation loan’s monthly installments, measure your income against your expenses to determine a realistic monthly payment.
  3. Make the loan a top priority. Pay off the consolidation loan before taking on new financial responsibilities. In other words, don’t inquire about your eligibility for new credit card promotions or run up any additional debt on your existing cards, as both of these will have a negative effect on your credit score.

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Staff Writer

Bill “No Pay” Fay has lived a meager financial existence his entire life. He started writing/bragging about it seven years ago, helping birth Debt.org into existence as the site’s original “Frugal Man.” Prior to that, he spent more than 30 years covering college and professional sports, which are the fantasy worlds of finance. His work has been published by the Associated Press, New York Times, Washington Post, Chicago Tribune, Sports Illustrated and Sporting News, among others. His interest in sports has waned some, but his interest in never reaching for his wallet is as passionate as ever. Bill can be reached at bfay@debt.org.


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  2. White, A. (2018, September 1) Credit Scores That Get Balance Transfer Credit Cards. Retrieved from https://www.magnifymoney.com/blog/balance-transfer/credit-score-balance-transfer824575760/
  3. Quilter, J. (2009-2011). Unsecured Debt Consolidation Loans. Retrieved from http://www.unsecured-debt-loans-consolidation.com
  4. The Loan Bazaar (2007). Introduction to debt consolidation loans. Retrieved from http://www.theloanbazaar.com/debtconsolidation/
  5. Debt Steps (2003). Types of debt consolidation loans. Retrieved from http://www.debtsteps.com/debt-consolidation-loans.html
  6. McCune, J. (2003). Debt consolidation: cure or continued credit problems? Retrieved from http://www.bankrate.com/brm/news/cc/20031007a1.asp
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