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Credit cards. Student loans. Overdrafts. Juggling several high-interest loans of various amounts, from different lenders and with their own payment dates can be overwhelming. But by restructuring these debts into a single loan with a lower interest rate, you might be able to get your finances back on track. So, is debt consolidation a good idea?
Consolidating debt can be a great way to reduce both the number and cost of monthly payments. That said, it’s not a fail-safe strategy.
Much of its success depends on individual circumstances, like your spending habits, credit score, and the kind of debt you're facing - which is why it’s so important to weigh up the strengths and drawbacks of debt consolidation before taking the next step.
And you’re not alone in this endeavour. With one in six UK residents having more debt than they earn, plenty of people are looking for a smarter way to manage multiple loans.
We’re here to help.
Below, you’ll discover how a debt consolidation loan works, when it makes sense and when it doesn’t. Plus, we explain the key benefits and potential pitfalls you need to consider. Read on to understand whether debt consolidation is a good idea in your situation.
A debt consolidation loan is a personal loan that you take out to pay off existing debts. The aim is to merge all of your outstanding balances into one repayment term with a reduced annual percentage rate (APR). That’s the amount of interest you'll pay each year for borrowing.
Debt consolidation loans can be secured or unsecured, and both types tend to offer better rates than credit cards.
With a secured loan, assets like your home or car serve as collateral until you’ve paid off all your debt. While this protection usually means lower interest rates, there’s also a relatively high minimum threshold for borrowing (about £10,000, depending on the lender). Not to mention, you risk losing your most prized possession if you can no longer afford payments.
On the other hand, unsecured loans aren’t backed by any assets. That makes them riskier for lenders but also more accessible to borrowers, who don’t need to own any property to get approved.
These debt consolidation loans are a good choice if the total amount of debt you need to cover is between £1,000 and £25,000.
Debt consolidation works by restructuring several debts, like credit card bills and overdrafts, into a new loan that covers all their costs.
While it might sound daunting at first, this strategy is a simple four-step process:
For example, say you have a total of £10,000 in debt across four credit cards, all with an APR over 25%. If you take out a debt consolidation loan for £10,000 with an APR of 20% to pay off these bills, you’ll only have to make one monthly payment thereafter - and it’ll cost you less in interest each time.
Basically, consolidation is all about combining your debts for quicker and more cost-effective repayment.
The three main types of debt you can consolidate are:
Remember, consolidating your debts doesn’t have to be an all-or-nothing approach. You don’t need to include every single loan. Depending on their rates and repayment terms, some might be better left alone.
For example, student loans tend to be low-interest and long-term, and so aren’t usually the best choice for consolidation. Additionally, most student loans in the UK are provided by the government via the Student Loans Company. If you take out a private debt consolidation loan instead, it might not offer the same repayment plans and support options.
So, do your homework to make sure you won’t miss out. Student loan consolidation will generally only be a good idea if you:
Meanwhile, credit cards are revolving (credit automatically renews as debts are paid off) and repayment amounts vary. Some borrowers favour this flexibility over a lump-sum debt consolidation loan with fixed monthly repayments.
That being said, credit cards typically have high APRs, which can significantly increase the expense of borrowing in the long run. With inflation and interest rate surges, you might consider consolidating your debts to cut overall costs. More on this is below.
The key takeaway here is to consider the circumstances of each individual debt before consolidating it with any others.
Debt consolidation can save you time, money and stress under the right financial circumstances. Consider this restructure if you have:
Let’s dive a bit deeper.
Reorganising multiple loans with high APRs into one debt consolidation loan with a lower rate can save you money on interest.
Just don’t pay it off over a longer term than your initial loans, or the extra payments might offset your savings. After all, if you’re not cutting costs, there’s little point in consolidating.
Lenders are more likely to offer you a low-interest rate if you have a credit score of at least 600-650 because you’ll be viewed as a less risky borrower. This is usually considered to be a fair credit score, but ratings vary according to the credit scoring model. To give you a rough idea, here’s a general breakdown of credit score ratings:
In short, the higher the score, the better. You can check your credit score online for free on websites like ClearScore and Checkmyfile.
If your score has increased since applying for previous loans, then you could be in a solid position to reduce repayments with debt consolidation.
This is important, as you’ll need to be earning enough to cover the new loan’s monthly payments throughout its term - missed or late payments defeat the whole point.
Last but not least, only opt for debt consolidation if you’re viewing it as a chance to get your finances back in shape. Your debt consolidation loan should be part of a wider plan to curb overspending and improve cash flow. That way, it won’t just be feeding old financial habits.
If debt consolidation sounds like a smart move for your financial situation, apply for an unsecured loan with Abound in just a few minutes. Once you’re approved, we’ll aim to get you your money in as little as one day.
Below, we take a look at the benefits of debt consolidation loans when used appropriately. Read on to learn why this approach makes sense for so many borrowers.
Debt consolidation takes the hassle out of paying off your lenders. Instead of trying to juggle multiple debts, APRs and payment dates every month, all you have to do is keep track of one fixed-rate loan.
As debt consolidation repayments are the same amount each month, it can help you to know exactly how much to put aside and when your last payment will be.
With fewer calculations and deadlines to worry about, it’ll be more straightforward and less stressful to stay on top of your finances. And when you know your monthly outgoings, you’ll be in a better position to budget wisely.
Consolidating your debt could cut the cost of your monthly payments. That’s because the new payments will often be spread out over an extended loan term with a relatively low APR.
As a result, you should be more capable of paying the required amount on time, every time. And that means less risk of default, which is what happens when you fail to make the payments agreed to in your loan terms.
If handled appropriately, debt consolidation can improve your chances of getting approved by lenders - and securing even lower rates - in the future. There are a few ways it can boost your credit score.
As mentioned above, with a more manageable and affordable loan term, you’ll be less likely to miss a payment. That's good news for your credit score because each default will leave a negative mark on your report.
Conversely, making payments in full and on time is a solid way to build a good credit score. That’s because your payment history is one of the biggest factors in calculating your credit rating.
Additionally, settling lines of credit can lower your debt-to-income (DTI) ratio. This is the percentage of your monthly income that’s used to pay your monthly debt - and it’s a way for lenders to gauge how much you can afford to borrow.
In an ideal world, this rate should stay below 36%.
Debt consolidation can help you to work towards this goal by giving you the means to pay off any outstanding balances.
Many debt consolidation companies charge lower APRs than credit cards.
These interest rates vary and can depend on your credit score. On the whole, though, if you have a good credit rating, you can expect to pay significantly less interest on a debt consolidation loan than you might on a credit card.
So, if you have multiple credit cards with high APRs, consolidating your debt at a lower rate can save you a lot of money.
At Abound, we set the interest rate based on your individual circumstances, and it might be lower than the average credit card APR in the UK - which hovers around 25.3%.
Although debt consolidation can be a good idea in plenty of situations, it’s not a one-size-fits-all solution. Here, we’ve listed some potential issues with this strategy so that you can understand how to sidestep or solve them.
The main drawback of a debt consolidation loan is that the slate won't be wiped clean. Ultimately, you’ll still have to pay the money back - and there's no guarantee that you won't go into debt again.
It's worth looking at the root cause of the debt in the first place. Have you been buying more than you’re earning? If so, you’ll need to try curbing your spending if you want to break the debt cycle for good.
If you're concerned about making loan repayments and feel that you'd just end up owing more to a different lender, then you might want to consider a different debt management plan.
Debt consolidation can bring some upfront costs with it. For example, lenders often charge an origination fee that covers the processing of your loan application and any associated administration.
Other potential costs include:
As with any financial contract, it's always best to check the fine print to make sure you understand the total cost.
If you only have a small amount of debt that you’ll be able to settle in under a year, debt consolidation mightn’t be worth these additional fees. However, a debt consolidation loan could bring you significant savings in interest. When exploring your options, weigh up the loan’s charges with the money you’ll pocket from its lower rate.
It always pays to think ahead.
Your monthly payment might be lower than it used to be, but you could actually end up spending more in interest over time if your loan’s term is a certain length.
To dodge this drawback, make sure your monthly payments are greater than the minimum loan payment. By repaying more than required on a regular basis, you’ll be able to pay off the loan quicker and save on interest over its lifetime.
When assessing your new loan application, lenders will complete a hard credit search. This is a full review of your credit report, which can initially lower your credit score.
Fortunately, a debt consolidation loan can help to raise this rating again, as you're more likely to make its monthly payment in full and on time. In turn, this proves your reliability to lenders.
For debt consolidation to make a lasting impact on your credit score, you’d need to apply for several loans in a short time frame. If you make this mistake, your file will suffer mark after mark as each lender performs their own hard credit search. This is a red flag to lenders, because it seems like you’re applying for each loan without careful consideration.
Think that debt consolidation is a good idea for your finances? Before you apply for your new loan, you’ll need to crunch some numbers.
First, add up the amount of all debts you’re looking to consolidate. Then call each lender to request a settlement figure, because they might demand an early repayment charge. Add each of these fees to your total. This is how much you should borrow.
Next, you’ll have to figure out how much you can spend on the payment every month. As well as basing this off of your current debt payments, consider any recent or upcoming changes in disposable income after rent, utilities, groceries and other essential expenses.
Also, note that you won't have to worry about credit card minimum repayments any more because this debt should be cleared quickly.
Once you’re confident in the calculations - i.e. how much you need to borrow and the most you can afford to repay every month - it’s time to apply for a personal loan.
To sum it up: figure out how much money you owe, borrow only what you need, and pay it off as soon as possible.
So, is debt consolidation a good idea?
A lot of the time, yes.
If your new loan has a lower interest rate and a shorter term than those of previous debts, then consolidation can be a wise way to save money on your repayments.
And if you're struggling to keep up with multiple debts, consolidating them into a single loan will make your life a lot easier, too. Pay everything off and then manage one monthly payment moving forward.
Ready to streamline your finances with debt consolidation? At Abound, we offer all kinds of unsecured personal loans up to £10,000.
Unlike traditional lenders, we use Open Banking to look beyond credit scores and understand the full financial picture when reviewing your application.
In turn, you can secure a more practical repayment term with a better rate.
Get a free quote with our online loan calculator today.