By Karen Lynch | American Express Credit Intel Freelance Contributor
4 Min Read | January 17, 2020 in Money
Millennials spend about a third of their monthly income repaying a mixture of debt—student loans, credit cards, mortgages, and more.
Consolidating some of this debt into a single loan could simplify personal finances, lower monthly payments, and help lead you out of debt.
Watch out for obstacles and pitfalls, though; debt consolidation only works for some people and some types of debt.
Here’s a startling number: American millennials spend about a third of their monthly income repaying debt, according to a report from a leading financial services company.
So, if you’re a millennial, you’re probably juggling multiple debts, including these top five:
No wonder you might be tempted to consolidate at least some of this debt into a single loan with a lower monthly payment. But what is debt consolidation, exactly, and could it really make your life easier?
Consolidating your debt usually means rolling up several credit card balances, outstanding loans, and other debts into a single personal loan. Because personal loans tend to carry lower interest rates and have longer repayment terms than some of your other debt, this restructuring can leave you with one, lower payment every month. But it’s not as simple as it sounds.
Let’s run through the basics.
Lenders cite three primary reasons for debt consolidation:
Debt consolidation isn’t rocket science, but it isn’t simple, either. Among the arguments against consolidating your debt:
The worse your financial situation is, the less likely it is that debt consolidation will solve your problem. If your credit score, debt-to-income ratio, or other facets of your financial profile aren’t up to snuff, banks could decline to lend to you. Or, any loan they write could come at such a high rate of interest that it doesn’t help your situation.
Debt consolidation is usually used for unsecured debt (think: credit card debt, medical bills, personal loans, payday loans), rather than secured debt (think: home mortgages and auto loans, both of which tend to have lower interest rates than personal loans because they’re secured by your home and your car, respectively).
Most student debt also carries lower interest rates, arguing against rolling it into a personal loan.4 However, you can sometimes simplify your finances by combining two mortgages into one, for instance, or rolling up multiple student loans into a single student loan.
Before pursuing debt consolidation, ask yourself if it’s really necessary. The Consumer Financial Protection Bureau recommends you first make a concerted effort to adjust your spending to the point where you can pay your current bills, and avoid taking out a new loan. You could also reach out to your creditors to negotiate better terms.5
Debt consolidation loans, including personal loans and home equity loans, can be arranged primarily through banks or fintechs. An alternative is a 0% balance transfer credit card, if the balances you carry on your cards are actually your biggest headache.
Another type of debt consolidation is available through debt relief companies, which will help you develop debt management plans and debt settlement plans that don’t involve loans. Instead, they renegotiate with creditors on your behalf to settle or change the terms of your existing debt.
Consolidating your debt might be the best thing for you. If that’s the case, you should congratulate yourself for taking a big step to manage your personal finances. And yet, don’t lapse into a false sense of financial wellbeing, thinking that your debt is paid off. It’s not, it’s only restructured.
If your spending remains above your means, consolidation could land you in a worse position. You could end up with a big monthly consolidated loan payment plus a growing number of new bills as you continue spending on your credit cards, store cards, and other accounts.
In a survey by U.S. News & World Report, more than 60% of respondents who had consolidated their debt said it was a good choice, delivering some combined effect of lower monthly payments, better credit scores, and lower debt. What’s more, 68% of respondents said they’d changed their spending habits for the better after consolidating.6 Of course, that leaves nearly a third who may not have fared as well.
What is debt consolidation? Is it for you? You could simplify your life, gain more control of your finances, and start getting out of debt by consolidating some of your monthly bills into a single loan. But experts say to proceed with caution; debt consolidation isn’t the right fit for everyone.
1 Planning & Progress Study 2018, Northwestern Mutual
2 “How Debt Consolidation Affects Your Credit Score,” MagnifyMoney
3 “What Do I Need to Know If I’m Thinking About Consolidating my Credit Card Debt?” Consumer Financial Protection Bureau
4 “Can I Consolidate My Student Loans and Other Debts Together?”, Student Loan Hero
5 “What Do I Need to Know If I’m Thinking About Consolidating my Credit Card Debt?” Consumer Financial Protection Bureau
6 “Debt Consolidation Loans,” U.S. News & World Report