Debt repayment is never easy. However, lower interest rates and lower payments can ease the burden.
When it comes to ordinary consumer debt such as credit cards and personal loans, two of the most popular ways to reduce your rate include balance transfers and debt consolidation loans.
What is the difference between these options – and which one is the best? Both have pros and cons, but you can make an educated decision when you understand the fees and how your debt is going.
Credit card balance transfer
With a credit card, you transfer the debt to a new or existing credit card. To do this, the card issuer may provide promotional checks or allow you to request a transfer online. Balance card transfers are the most attractive when you know you will pay off debt quickly.
At best, you can pay 0% interest on your debt, at least for a limited time. Eliminating interest costs helps stop bleeding because your credit balance does not increase and 100 percent of every payment leads to a reduction in debt. But pay attention to the fine print.
Fees: Find out if you will have to pay a balance transfer fee. The cost is often about 3% of the amount you transfer, or the amount of one dollar – whichever is greater. Any savings you receive from a lower interest rate must more than cover the transfer fee. You can also download new annual fees if you open a new credit card.
Interest rates: The best interest rates are available to customers with good credit. You may see attractive deals in ads, but you need to review what your card issuer really offers you after reviewing your credit. Even if you get a 0% APR, that rate may not last long. Make sure the rate changes and what happens after the promotional period ends.
Your Credit: Balance transfer offers aren’t necessarily bad for your loan, but they can cause problems. Every time you sign up for a new card, lenders look at your credit history, and those questions can increase your credit scores. Having too many consumer accounts (such as credit cards) can also reduce your score.
If you end up using a credit card to transfer your balance, be sure to use them as a tool to pay off debt – not an instrument to increase debt. Avoid using the card you paid to deepen your debt.
Instead of using credit cards, you can consolidate debt through a personal loan, some type of secured loan, or P2P credit. A large loan can allow you to combine several loans and get everything in one place. Debt consolidation loans often come with a fixed rate, so it makes more sense when credit card promotional periods are too short. For example, offering a 0% APR for three months may not be helpful if you expect to take three years to pay off your debt.
Fees: You may or may not pay debt consolidation lending fees. With some credits, you will see obvious costs such as processing or origin costs. With other loans, the costs will be invisible, but they are built into the interest rate.
Compare a few loans to find the combination of prepaid fees and interest rates that work best for you.
Interest rates: The rate you pay will depend on the type of loan you use. A personal unsecured loan will have a higher rate than a secured home equity loan, for example. Still, you’ll probably pay interest at a rate lower than standard credit card interest rates – but a “teaser” or promotional credit card should be even lower, at least in a few months.
If you are in debt for several years – longer than any credit card promotion – you may be better off handling credit for debt consolidation. Interest rates can be variable, which means that they will move up and down like credit card rates, or they may improve. Fixed rates make it easy to plan because you will know what your monthly payments are for a lifetime of credit.
However, fixed rates usually start higher than variable rates.
Your Credit: As with credit cards, new loans cause inquiries that can affect your vouchers – at least in the short term. In the long run, some debt consolidation loans could potentially be better for your loan than a transfer balance.
Loans are higher when you use a mix of different types of loans, and installment loans make you more attractive than a borrower who relies solely on credit cards. If you are a heavy credit card user, you seem to be spending more than your money on consumables and paying high-interest rates – which is not sustainable.
Debt consolidation loans could suggest that you have committed to paying off debt and have used the right type of debt for that purpose. This means that you are a great borrower, so you are likely to repay other loans in the future. As long as you pay on time and only take on debt that you can afford, your credit will strengthen.
For some debt consolidation loans, you may need to pledge collateral. This means allowing the bank to take your assets and sell them if you do not pay the loan. For example, you might pledge your home as part of a home equity loan, or you could use the car as collateral.
Unsecured Loans to Keep: Securing can help get approved, but the promise of your funds is risky. What if things didn’t work out as planned – can you live without your home?
Can you work and earn income without your car? It is best to keep unsecured loans unsecured because the only thing at risk is your credit. Using a home equity loan to pay off unsecured credit card debt will dramatically increase your risk. If something unexpected happens, you will lose your home in custody.
Refinancing Loans Secured: If you already have secured debt, consider refinancing those loans separately. For example, use a balance transfer or debt consolidation for unsecured debts and get a different loan for your secured debts. That said, if you can pay off your secured debts and turn them into unsecured debts, you would reduce your risk – just make sure it’s worth the extra cost.
Student Loans: Use caution
If you have student loans, do your homework before consolidating those loans or paying them off with a personal loan. Government loans provide unique benefits such as the potential for loan forgiveness or the ability to defer payments. If you refinance or consolidate with a private lender, you may lose access to those individuals who are lenders.