What does debt consolidation mean?
Debt consolidation is a way of moving multiple debts, like loans and credit cards, into one place to make the debt easier to manage. We’ll explain how it works, what to consider, and how it may benefit you.
5 min read
In a nutshell
- Debt consolidation combines multiple debts into one payment, usually through either a balance transfer credit card or a debt consolidation loan.
- Eligibility depends on your financial circumstances including your income, credit score, and debt-to-income ratio.
- Common debts that can be consolidated include credit cards, store cards, overdrafts and loans, with no set limit on the number of debts you can combine.
- The consolidation process is quick (sometimes same-day funding), but the real timeline is how long it takes to pay off the consolidated debt.
What is debt consolidation?
Debt consolidation is a way of combining all (or some of) your debt into one place, typically with a new credit card or loan. In doing so, you can make managing the repayments and budgeting easier. You also cut multiple interest rates down to one, meaning you only have a lender to repay.
In some cases, consolidating your debt can make it more affordable, as you may have a better interest rate than before. As a result, it may help you pay off the debt quicker.
There are two main ways to consolidate debt:
What is a balance transfer credit card?
A balance transfer credit card is a way to consolidate credit card debt. It involves moving all your credit card debts to a single new credit card. This means you only have to make one monthly repayment, instead of juggling multiple.
Balance transfer credit cards may come with a 0% introductory offer. This interest rate will be fixed for a set period, which can make your debts more affordable.
How long the 0% interest period lasts depends on the provider, but one thing you can guarantee is that it will end. When it does, the interest will likely increase significantly. So, it’s important that you try and clear the balance in full before this happens.
What is a debt consolidation loan?
There are two types of debt consolidation loan: secured and unsecured.
Secured debt consolidation loans
Secured loans (sometimes referred to as homeowner loans) are tied to something that you own, such as your home. This added layer of security to the lender gives them more confidence to lend larger amounts (compared with unsecured loans) to those with lower credit scores.
As the loan is secured to your property, your home could be repossessed if you don’t pay back your loan. The lender would then sell it to get their money back.
Unsecured debt consolidation loans
Unsecured debt consolidation loans are a type of personal loan. You borrow a fixed amount of money from a lender upfront, and then use it to repay your existing debts in full. You then pay back the new loan in monthly instalments.
You can consolidate multiple kinds of debt under one loan, i.e. overdrafts, credit cards and other personal loans. The benefit is you’ll only have one repayment, one interest rate and one lender to think about.
Although unsecured debt consolidation loans aren’t secured against an asset, failing to make at least the monthly repayments under any type of credit can impact your credit score. This could have a knock-on effect on your ability to get approved for credit in the future.
Loans for all purposes from £1,000 to £500,000
- Get a decision online
- Know your rate before you apply
- Comparing won't affect your credit score
Intelligent Lending Ltd is a credit broker, working with a panel of lenders. Homeowner loans are secured against your home.
Who can consolidate debt?
Debt consolidation is available to a wide range of borrowers, but eligibility depends on several key factors. Lenders will typically consider:
- Your income source: Whether from employment, self-employment, or other reliable revenue streams, it’s important you can show your ability to repay what you borrow.
- Your credit score: Higher scores usually unlock lower interest rates and better terms, though some lenders work with borrowers who have fair or poor credit. Secured lending can also help if you have a poor score, as you are providing your property as collateral.
- Your debt-to-income ratio: Lenders want to ensure you can manage the new loan payment alongside your existing costs.
There are options available for those with poor credit or who have lower income, but they may involve higher interest rates.
What kinds of debt can I consolidate?
Debt consolidation can be used to pay off a variety of credit products. Here are some of the most common:
Credit cards and store cards
These cards can charge high interest rates, which makes them less suitable for long-term borrowing. If you have a credit or store card that’s taking a long time to repay, debt consolidation could be a good way of reducing the amount you’ll have to repay in the long-term – if you can find a loan or balance transfer credit card with a lower interest rate.
Overdrafts
It’s easy to get stuck in an arranged overdraft. If you have an overdraft that you’re struggling to get out of because the interest is high, debt consolidation could help reduce the interest you pay and get you out of debt faster.
Personal loans
It may sound strange to take out a loan to pay off another loan, but in some cases it can be the best way to reduce the amount you’re paying on existing debts in the long run. Make sure you do your research and compare interest rates to see if you can make a saving.
How many debts can I consolidate?
There’s no set number of debts that you can or can’t consolidate. Instead, it depends on how much you’re able to borrow and how much large your debt is.
The amount you can borrow will depend on your personal circumstances and the lender’s criteria. If you have a poor credit score, it may be harder to get a large loan, unless you are able to secure it against your property.
How does debt consolidation affect your credit?
Applying for any kind of credit will temporarily lower your score (whether it’s a loan or credit card). When you apply, the lender will perform a hard check on your credit report. This helps them to decide how risky it would be to lend to you based on your past financial behaviour.
For this reason, it’s always a good idea to use an eligibility checker first. These use some basic information about you to gauge how likely you are to be accepted before you complete an application.
Importantly, an eligibility checker only involves a soft check of your credit report. Soft checks are invisible to everyone other than you, and therefore do not affect your credit rating.
Is debt consolidation a good idea?
Whether or not consolidating your debt is a good choice depends on your personal circumstances. While there can be benefits, it isn’t for everybody and sometimes it can end up costing you more.
Debt consolidation may be a wise choice if:
- You want to make budgeting easier, so you reduce the chances of missing a payment
- You can comfortably afford to make the new monthly repayments
- You can get a 0% introductory deal on a balance transfer credit card for the required amount - and you pay off your debt before the deal ends
Debt consolidation may not be a good idea if:
- You end up paying more through fees and charges for early repayments / transferring your debt
- You’re unsure whether you can meet the monthly repayments on your new line of credit
- It won’t help make your debt more affordable and/or it will keep you in debt for longer. Remember, if you consolidate your existing borrowing, you may be extending the term and increasing the amount you repay in total.
Read on for more information about credit cards versus loans.
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