If the size and complexity of your debt is bothering you, trust your instincts. Yes, you ought to consider consolidating that debt to make it more manageable.
There is good reason to debate which form of debt consolidation – balance transfer cards, loans or debt management plans – makes the most sense for eliminating debt.
Debt consolidation loans and debt management plans are two tried-and-true methods to reduce personal debt so you can not only keep up with it, but pay it down and, eventually, pay it off. Debt consolidations loans and debt management plans bundle several debts into a single payment that can both simplify and, depending on your old loans’ interest rates, lower your monthly payment.
But you’ve seen marketing for balance transfer credit cards that offer 0% interest for a limited time, and not having to pay interest while paying off debt has an obvious appeal.
Is this the best answer to your problem? Maybe. It depends on whether you qualify, how much you owe and how many creditors you’re obligated to.
What Is a Balance Transfer Card?
A balance transfer card allows you to take the amount you owe from one card and move it to a new card with a lower or even 0% interest as an introductory rate. Ideally, you would pay down the balance more quickly because no interest is being charged. You can transfer other loan balances to these cards, too.
The 0% introductory rates, of course, don’t last forever, so it’s important to know how long that period lasts – typically 6 to 18 months – and what the standard interest rate will be when the introductory period expires.
To make this work, figure how much of the debt you can expect to pay off before the introductory rate expires. If you can pay it all off, good for you! If you can’t wipe out the debt, calculate how much interest you’ll pay when the standard rate takes over, especially if that rate is higher than what you’re paying now. Include any transfer fees in the equation so you get a total cost.
Also, understand that the introductory rate usually only applies to the balance transfers. Any new purchases with the card will be charged the higher, standard rate.
Pros of Using a Balance Transfer Card
The biggest advantage, of course, is the opportunity to pay down your debt during the low-interest introductory period. If it’s a zero credit card interest rate introductory period, every dollar you pay reduces the amount you owe.
After you’ve paid off your debt, you’ll have another open credit line, which can improve your credit score.
Some balance transfer credit cards have no annual fee or include rewards. Balance transfer cards also may offer no late fees or allow you to pick your payment due date. Some cards offer balance transfer checks, enabling you to pay down other loans and transfer that amount to the balance of your card at the introductory APR.
Here’s a tip: Even after paying them off through balance transfer, you may want to keep the old cards open, even if you don’t use them much. One measure of your credit score is how much of your available credit you’re using. Transferring a lot of debt to one card and then cancelling the other could hurt your credit score.
Cons of Transferring Your Balance
Not everybody qualifies for balance transfer cards. Many require good or excellent credit, so those with lesser credit are left out. We found one card that “may” accept fair credit — Aspire Platinum MasterCard. You’ll probably need a 670 credit score or higher to qualify for a balance transfer card.
You can’s transfer between cards from the same bank. For example, if you have a Capitol One card, you can’t transfer debt to another Capitol One card.
Most of these cards charge a fee to transfer a balance, usually 3% to 5% of the amount you transfer. For example, transferring $5,000 to a card with a 3% fee will cost $150.
Most transfers must be completed within 60 days from account opening. Wait too long to make a transfer, and you may miss out on the 0% APR period.
Card issuers usually limit how much you can transfer to a percentage of your total credit limit or a specific dollar amount. Issuers also factor in the total cost of the balance transfer, which includes any balance transfer fees.
And, to repeat, the low interest rate will expire. If you don’t use balance transfer cards to seriously pay down or pay off a debt, it won’t help you very much.
What Is a Debt Consolidation Loan?
Debt consolidation loans combine multiple debts into one monthly payment that you pay over a predetermined time period. Since these loans usually have lower interest rates than credit cards, you save money on interest. Debt consolidation loans typically have terms of two to five years, the length determined by how much you’re borrowing.
Such programs may involve secured and unsecured loan. A secured loan is backed by one of your assets; home equity loans are a common type of debt consolidation loan. If your home is worth significantly more than you owe on the mortgage, you may be able to borrow against that equity. Because an unsecured loan is not tied to collateral, it’s riskier for the lender, so the interest is usually higher.
You can expect to pay fees for such loans, either up front or later in the term. Compare loans to find out which combination of fees and interest works best for you. If you hope to pay off your debt consolidation loan early, make sure your lender doesn’t impose prepayment penalties.
Pros of Debt Consolidation Loans
- Debt consolidation loans simplify your life because you only have to keep track of one payment each month.
- Fixed rates and monthly payments are easier to budget and give you a payoff date.
- The better your credit, the lower your interest rates.
- It’s challenging but not impossible to get debt consolidation loans with bad credit.
- Secured loans are easier to get, allow higher borrowing amounts and lower interest rates, and the interest may be tax deductible.
- Unsecured loans put none of your assets at risk and require shorter repayment terms, which lowers the cost in interest payments over time.
Cons of Debt Consolidation Loans
- They’re not a magic bullet. You’re in debt because you’ve been spending beyond your means. If that doesn’t change, debt consolidation won’t work.
- If you fall behind on payments, late fees may await, and missed payments are likely to lower your credit score. Make sure the monthly payment is something you can handle comfortably.
- For secured loans, longer repayment terms mean paying more in interest over time, and you risk losing the collateral you put up to qualify for the loan.
- Unsecured loans allow lower borrowing amounts, have higher interest rates and no tax write-offs.
Which Option Is Right for You?
These different options exist because not everyone’s debt situation is the same.
How much do you owe? If your combined debt is $20,000 or more, you are more likely to need a loan or enroll in a debt management program to consolidate.
Balance transfer cards typically have lower limits, and the more you owe, the less likely you will be able to pay it all off before the low introductory interest rates expire.
If you have a lower balance, especially if it’s all credit cards, an interest-free balance transfer card gives you a good chance to wipe out your debt if you’re serious about it.
Ask yourself another question: Are my financial issues deeper than just debt? If you aren’t good at keeping track of how much money is coming in and going out, a debt management plan may be what you need. In addition to working out a strategy to get you out of debt, credit counselors will work with you to create a budget so you can avoid making debt trouble a recurring theme.
You’re not alone. The average credit card balance in 2020 was $5,315, according to Experian Information Solutions, and many people have more than one card. But debt doesn’t have to rule your financial life. These options could lead you to a more solid financial future.
About The Author
Max Fay has been writing about personal finance for Debt.org for the past five years. His expertise is in student loans, credit cards and mortgages. Max inherited a genetic predisposition to being tight with his money and free with financial advice. He was published in every major newspaper in Florida while working his way through Florida State University. He can be reached at [email protected].
- Luthi, B. (2018, December 18) Should You Get a Balance Transfer Credit Card or Debt Consolidation Loan? Retrieved from https://creditcards.usnews.com/articles/should-you-get-a-balance-transfer-credit-card-or-debt-consolidation-loan
- Stolba, S.L. (2020, November 30) Credit Card Debt in 2020: Balances Drop for the First Time in Eight Years. Retrieved from https://www.experian.com/blogs/ask-experian/state-of-credit-cards/