When does debt consolidation make sense?

Daniel Stokes, CFP®, AFC®

Debt consolidation is very popular these days. Every lender seems to want a crack at repackaging your loans, and they’re spending a lot of money to get your attention:

  • A clever commercial for student loan consolidation boasts about how you could save thousands of dollars
  • A colorful postcard lands in your mailbox offering a credit card balance transfer with 0% interest for 12 months
  • A slick ad for a personal loan appears right when you sign in to your banking app

If you’re juggling multiple loans, are these offers right for you? After reading about debt consolidation and creating a debt reduction plan in BrightPlan, it may be time to start applying. Or it might not be.

7 criteria to check before consolidating your debt

Here’s when debt consolidation could be the right next step:

  • Your spending habits are in check and you have a plan to pay down debt. It’s essential to have a plan for how you can make the new payments. If you continue to accrue debt, then there’s no point in consolidating until the key issue is addressed - you need to stop spending more than you earn. Focus on increasing income and reducing expenses where possible. Review your Spending Analysis to find areas to free up cash, build a budget, and establish a Debt Reduction goal to get your momentum going the other way.

  • You have good credit. If you have poor credit, then you are less likely to get a new loan or credit card with better terms and rates than your current situation. Each lender typically has a minimum credit score for borrowers. Some will accept FICO credit scores as low as 580, but others require a higher minimum credit score. It’s a good idea to research average credit scores to see if you’re within the normal range for the lender.1

  • Your debts are manageable compared to your income. A lender’s maximum debt-to-income ratio is the amount of your monthly debt payments divided by your gross monthly income. Lenders use this figure to determine your ability to make loan payments each month. Some debt consolidation lenders allow a debt-to-income ratio as high as 50%.

  • You can consolidate at low or no cost. Don’t just compare the final payments, look at the fine print. Fees and penalties can add up quickly and significantly increase the cost of your loan. These include origination, prepayment, late and other fees. They vary by lender so be sure to shop around to see what you pay upfront and what has to be paid if certain conditions aren’t met.

  • You’re able to lower your interest rate. A lower interest rate means less money paid for the loan. The lower the better, but this shouldn’t be the only factor you consider. Review the rate and any additional fees as well. Some loans, like medical debt, have low or no interest payment. Consolidating low interest loans isn’t nearly as beneficial as loans with high-interest rates like credit cards.

  • You’re ok with extending your repayment. Different lenders have different term options. You’ll likely have lower payments if you extend the term and lower your interest rate. However, extended payments may mean extending the life of the debt and paying more in interest.

  • You’re willing to weigh your options. You should compare at least a few different lenders for your debt consolidation loan to ensure you’re getting the best interest rate and terms you can qualify for. Most lenders offer rate quotes, which are soft inquiries on your credit and have no effect on your credit score.

It’s unlikely that you can check all of these boxes, but if you can check a handful, the next step is asking how to consolidate. Personal loans, home equity, and credit card balance transfers are three common methods.


1. Not sure about your score? You can get a free credit score estimate from myFICO here, or you can likely get your score free within your bank or credit card app. Many major banks provide a free FICO or VantageScore® to clients through their online apps. This is an easy way to score your credit score without signing up with a new financial service provider.