Debt consolidation can be part of a smart financial strategy to pay off debt in an efficient way. Using consolidation to manage your debt can help keep the amount of interest you pay down, saving you money while you pay off the debt. To help with this kind of planning, here are some things to think about as you explore debt consolidation options.
Debt consolidation is debt management, not debt elimination
Moving all your outstanding loan balances to one lender will not reduce the amount you owe. You must ultimately pay off the loan and pay interest until the loan is repaid. Your goal should be using debt wisely.
Paying down your credit card debt
Even if you have not borrowed the maximum allowed for your credit card, paying down your balance should be one of your top priorities.
- Pay more than the minimum on your credit card balance. Interest rates charged on most credit cards are usually much higher than those found on other loans.
- Making your credit card payment as soon as you get the statement will help reduce the interest you are charged.
- Minimize your credit card usage for a period. Along with not subjecting higher balances to interest, using cash may help you identify ways to spend less.
Evaluating the real estate based alternatives
Start by reviewing the interest rates on your existing debts. Credit cards and unsecured personal loans usually have higher interest rates than other forms of secured debt like a mortgage, home equity line of credit (HELOC) or auto loan. If you find your rate on a home equity line of credit is less than the rates on credit cards, other personal loans or auto loans, borrowing through that line of credit may save you money.
Next, evaluate your borrowing capacity available through a mortgage or a home equity line of credit. Borrowing through a shorter-term HELOC will probably lower your interest rate, but most have variable interest rates. If you have a great deal of high interest rate debt, increasing the size of your fixed rate mortgage with a refinancing (even if you end up with a slightly higher mortgage rate than what you currently have) may result in lower overall interest costs. The interest you pay on your mortgage or HELOC is also tax deductible if you itemize your deductions.*
- Discuss your situation with your banker. He or she will be able to explain your alternatives and the pros and cons of each.
- Evaluating real estate based alternatives can get a bit complicated, so you may want to discuss them with a financial professional.
- Remember borrowing money means you have to repay it. If your borrowing is too high, take immediate steps to reduce it. Every dollar of debt reduction will translate into less interest you have to pay.
- Get professional help if you need it. There are many organizations, like The Consumer Credit Counseling Service, that offer free services and have helped thousands.
Using debt consolidation is a good way to minimize the impact of your debt so you can begin paying it off. To learn more about two proven plans of paying down debt, read our Advice Center article about the Snowball and Avalanche Methods here.