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Pros and Cons of Debt Consolidation: Is it Right For You?

January 16, 2024

woman weighing pros and cons of debt consolidation

Considering consolidating your debts? The answer isn't always easy, so we've taken the guess work out of it for you.

The Pros of Debt Consolidation

  • Simplify Your Financial Life

Imagine your financial life as a cluttered closet – debts hanging on mismatched hangers, loans tossed around like old shoes. Debt consolidation is your Marie Kondo moment. It combines multiple debts into one, making your financial wardrobe neat, tidy, and a joy to manage. One payment, one due date – simplicity at its finest. This can be especially useful if you have forgotten about making payments in the past due to multiple due dates.

  • Potential for Lower Interest Rates

Ah, the siren song of lower interest rates – every debtor's dreamy lullaby. Debt consolidation may help you secure a lower interest rate compared to the combined rates of your existing debts. This means more of your hard-earned cash goes toward chipping away at the principal, helping you escape the interest rate whirlpool and pay off your debt faster.

  • Improved Credit Score

Debt consolidation, when executed wisely, can be a knight in shining armor for your credit score. By paying off multiple debts and managing your finances more effectively, you may see a positive impact on your credit score. According to Experian, this is because credit card debt and personal loan debt are viewed differently. Credit card debt is considered revolving, whereas a personal loan is considered installment. A higher credit score opens doors to better financial opportunities in the future.

  • Fixed Repayment Terms

Predictability is the unsung hero of financial planning. Debt consolidation in the form of a personal loan comes with fixed repayment terms, giving you a clear roadmap to freedom from debt. No surprises, no sudden interest rate spikes – just smooth sailing toward a debt-free horizon.

  • Reduced Stress and Improve Mental Health

Debt can be a relentless, sleep-stealing monster. Consolidating your debts into one manageable payment can ease the mental burden, allowing you to focus on changing those behaviors that landed you into debt in the first place. A lighter mental load is not just good for your peace of mind – it's great for helping you to develop and align your behaviors with your personal financial goals.

The Cons of Debt Consolidation

  • Risk of Accumulating More Debt

Debt consolidation is like a double-edged sword. While it can corral existing debts, it may also tempt you into taking on more debt, especially if you haven't addressed the root cause of your financial challenges. Be cautious not to see debt consolidation as a free pass to rack up new balances. One way to approach this is to cancel unnecessary credit cards and keep only one - with the largest credit line - for true emergencies only. 

  • Fees and Costs

Everything comes with a price, and debt consolidation is no exception. When transferring a balance from one or multiple credit cards, there may be fees associated with the process, such as balance transfer or in the case of a home equity loan, origination fees. It's essential to calculate these costs against the potential savings to ensure you're not exchanging one financial woe for another.

  • Risk of Losing Collateral

Some debt consolidation methods, like secured loans or home equity lines of credit, require collateral. This is something that should be considered carefully. This is because because you could put yourself at risk of losing that collateral if your financial situation suddenly changes and you don't have an emergency savings account. Make sure you're comfortable with the risk before pledging any collateral.

  • Temporary Relief, Not a Panacea

Debt consolidation is a powerful tool, but it's not a cure-all. It provides temporary relief by reorganizing your debts, but the real magic lies in changing your financial habits. Without addressing the root causes, you might find yourself back in debt's clutches. When it comes to financial wellness, all roads lead to a budget. Education First makes it easy by providing its members with easy access to free budgeting software.

If You're Considering Debt Consolidation

  1. Check Your Credit Score: Your credit score is your financial compass. The higher it is, the smoother your debt consolidation journey may be. Under federal law, you are entitled to one free credit score check per year.  
  2. Do the Math: Calculate the total costs, including fees and potential interest savings. 
  3. Understand the Terms: Whether it's a balance transfer, personal loan, or home equity loan, know the terms like the back of your hand. Trust us, you may like surprises, but you don't want any when it comes to your financial health. 
  4. Evaluate Your Habits: Consider why you're in debt in the first place. If it's due to overspending or financial mismanagement, debt consolidation might not be a cure. It's more of a bandage – effective when used in conjunction with a commitment to healthier financial habits.

If Debt Consolidation Still Feels Like a Myth

  1. Explore Alternative Paths: Debt consolidation isn't the only trail through the financial forest. Explore other options, such as budgeting, negotiating with creditors, or seeking advice from financial advisors.
  2. Consult a Financial Sorcerer: Seeking advice from financial experts is never a sign of weakness. A financial advisor can help you decipher the runes of your financial situation and guide you toward the most suitable path.
  3. Take Baby Steps: Rome wasn't built in a day, and neither is a debt-free kingdom. Start small, focus on building good financial habits, and gradually chip away at your debts.

Debt consolidation is just a single thread woven into the intricate fabric of personal finance. As with any financial decision, approach it thoughtfully.  At Education First Federal Credit Union, we're here to be your financial mentor, helping you through the twists and turns of your finances. Want to learn more about debt consolidation? Download our  free Debt Consolidation eBook, give us a call or drop us a line to learn more about your debt consolidation options.