Debt consolidation loan vs balance transfer credit card: Which is right for you?

What is debt consolidation?

Debt consolidation means taking out one new form of credit to pay off some or all of your other debts. Think of it like putting all your debts into one big pot. Instead of making lots of different payments to different companies each month, you make just one payment to one lender.

For example, if you have three credit cards, a store card, and a personal loan, you could take out a debt consolidation loan to pay them all off. Then you'd only have one monthly payment to worry about.

Debt consolidation loans can be secured (using your home as security) or unsecured. The interest rate you get depends on your credit score and financial situation.

Pros and cons of debt consolidation loans

Pros:

• You only have one monthly payment to remember
• You might get a lower interest rate than what you're currently paying
• You know exactly when your debt will be fully paid off
• It can be easier to budget with just one payment
• You might improve your credit score if you make all payments on time
• It works for different types of debt, not just credit cards

Cons:

• You might pay more interest in the long run if the loan term is longer
• Secured loans put your home at risk if you can't make payments
• There might be fees for setting up the loan
• You need a good credit score to get the best rates
• You might be tempted to use your cleared credit cards again
• Some loans have early repayment charges

What is a balance transfer?

A balance transfer means moving debt from one credit card to another one that offers a lower interest rate. Many balance transfer cards offer 0% interest for a set period, often between 12 and 24 months.

For example, if you have £3,000 on a credit card with a 22% interest rate, you could move this debt to a 0% balance transfer card. This means you wouldn't pay any interest on that debt for the promotional period.

Balance transfers usually come with a fee, typically between 1% and 3% of the amount you're transferring. So if you transfer £3,000, you might pay a fee of £30 to £90.

Pros and cons of a balance transfer

Pros:

• You can get 0% interest for a set period
• All your payments go towards reducing your debt, not paying interest
• You can save a lot of money in interest charges
• You can consolidate multiple credit card debts onto one card
• It's usually quick and easy to apply online
• You can set up a Direct Debit to ensure you never miss a payment

Cons:

• Only works for credit card debt, not loans or other types of debt
• The 0% period will end, and the interest rate will jump up
• You usually have to pay a transfer fee
• You need a good credit score to get the best deals
• The credit limit might not be high enough for all your debt
• You might be charged a higher rate if you miss a payment

When is best to use either?

Here’s when each option tends to work better than the other:

Debt consolidation loans are best when:

• You have different types of debt (credit cards, store cards, loans)
• You want a fixed payment for a set period
• You need a longer time to pay off your debts
• You want the certainty of a fixed end date

Balance transfers are best when:

• You only have credit card debt
• You can pay off your debt within the 0% period

• You're disciplined enough not to spend on the old cards again

• You can make at least the minimum payments each month

Should I consolidate debt or balance transfer?

The best option depends on your personal situation. Ask yourself these questions:

1. What type of debt do I have? If it's only credit cards, a balance transfer might be better. If it's mixed debt, consider a consolidation loan.
2. How quickly can I pay it off? If you can clear your debt within the 0% period, a balance transfer could save you more money.
3. How good is my credit score? Both options require credit checks, but balance transfers often need better scores.
4. Will I be tempted to spend again? If clearing your credit cards might tempt you to use them again, a debt consolidation loan might be safer.
5. How much debt do I have? For larger amounts, debt consolidation loans might offer higher limits than balance transfer cards.

Remember, the most important thing is to stop adding to your debt while you're paying it off. Whichever option you choose, make a budget and stick to it.

If you're struggling with debt, free help is available from organisations like Citizens Advice, MoneyHelper and StepChange. Don't suffer in silence – reaching out for help is the first step to becoming debt-free.

Disclaimer: We make every effort to ensure content is correct when published. Information on this website doesn't constitute financial advice, and we aren't responsible for the content of any external sites.