What is Debt Consolidation?

Debt consolidation is the process by which many debts are converted into one typically through administration of a debt consolidation loan.

How Does Debt Consolidation Work with a Personal Loan?

Debt consolidation does not work differently with a personal loan. The main difference is that with a personal loan, you typically have no restrictions on how you can use the funds. Otherwise, just like a traditional consolidation loan, your goal is to use the funding provided to pay off any other personal loan or credit card debt you may have and make just one payment on the new personal loan.

Pros: Increased flexibility with how you use the money and you can sometimes request extra on top of the amount you are consolidating. Depending on your credit and income, the qualification process may also be less rigorous and you may be able to get a “no docs loan”.

Cons: you are likely to pay more in interest via a personal loan, since consolidation options are meant solely to pay off debt you have and can sometimes be more restrictive (this is especially the case with Credit Union Consolidation Loans). This is the main trade off and difference between the two. Lenders will typically see a traditional consolidation loan as less risky than a personal loan.

Does Debt Consolidation Hurt Your Credit Score?

Debt consolidation should not hurt your score in theory, but the impact to your credit is really going to be “situational”. Consolidating debt via a personal loan usually has some give and take (although they usually counterbalance). However, a few factors play into this: What typically happens, you credit is negatively impacted from opening a “new line of credit” and your credit worthiness is negatively impacted by an increased DTI ratio. Moreover, if you are using the personal loan to pay off credit card debt this should bring down your utilization rate and be a positive to your credit score. The net effect of these changes will depend your current credit, but sometimes this can either lead to a negative or positive impact to your score.

Can Debt Consolidation Save You Money?

Although they might save you money on interest payments, personal loans, will almost always have a higher monthly payment than whichever debts you decide to consolidate. Essentially, what typically happens is that: if you get a better interest rate via the personal loan you will save money on interest payments in the long term but you will also pay more money per month to achieve that savings. If you are not getting a good APR on the consolidation loan, it might be worth considering a different route.

Is Debt Consolidation Time Consuming?

Debt consolidation is not more or less time consuming than getting any other unsecured loan. The only case in which it is: if you go the route of getting a consolidation loan through a credit union (you’ll also typically get a better APR) you may have to use the funds to “only pay off debt” and cannot use it for anything else. Moreover, if you have exceptional credit the turnaround time can be even quicker.

Do You Need Good Credit?

Yes, you do need good credit for a debt consolidation loan. Unless, you have amazing income/DTI, you will at least want a 680+ credit score. Although you may qualify for something below this credit score, the terms of the loan are not going to be good.

Pro tip: Make sure your utilization rate is low as possible when your credit is pulled and that you can show good proof of income.