Understanding credit card consolidation options

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In a Nutshell

Credit card consolidation could save you money and make managing your debt easier, but which method of consolidation is best for you?

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Consolidating your credit card debt could save you time and money, but deciding which method to use can be tricky. Learn about the pros of cons of each so you can make an informed decision.

Credit card debt consolidation is simple in principle.

If you’re tired of making multiple credit card payments each month, you might want to consolidate your debt. To do so, you’ll likely have to borrow money and pay the cards off. Ideally, you’d then have a single payment with a lower interest rate than your credit card debts, so you’d pay less in interest while paying down the debt.

But deciding where to borrow the money from, and getting approved for the loan or arrangement, is where it gets complicated. There are many ways to consolidate credit card debt, and each has its pros and cons. Read on to figure out if you want to consolidate your debt and what method is best for you.

Should you consolidate your credit card debt?

Credit card debt can have a relatively high interest rate compared to other types of debt. Particularly if you have good credit, you may be able to qualify for a lower-rate loan. Even if you don’t have great credit, there are other routes to consider.

Consolidation isn’t a cure-all. Todd Huettner, a personal finance expert who runs Huettner Capital, a residential mortgage lender in Denver, says before consolidating, you may want to figure out why you wound up with the debt. Then you can work on solving the cause of the problem.

“No matter what option you choose, each has risks and trade-offs,” says Huettner. And you could wind up in a worse situation if you’re not careful.

For example, if you took out a loan to pay down your credit cards, only to wind up maxing out your cards again, you’d end up with both a loan and credit card debt to pay off.


Options for consolidating credit card debt

Now you understand the potential risks, have a plan for how to tackle your debt and want to move forward with consolidation. There’s no “best” option, but some may be less risky or fit your situation better than others.

Consider these different ways you could get money to consolidate credit card debt:

  • Take out a personal loan from a bank, credit union or online lender.
  • Open a balance transfer credit card, and transfer the debts.
  • Borrow or withdraw money from a qualified retirement account, such as a 401(k) or individual retirement account (IRA).
  • Replace your current mortgage or auto loan with a cash-out refinance.
  • If you’ve paid off your car, you may be able to borrow against it with a title loan.
  • Draw money from a home equity line of credit (HELOC).
  • Work with a nonprofit credit counseling organization.
  • Borrow money from a friend or family member.

Take out a personal loan

You can find personal loans from banks, credit unions and online lenders. Your credit may be a factor when the lender determines your eligibility and the interest rate on your loan.

Pros: The interest rate could be lower than your credit cards’ rates, and you may have several years to pay off the debt.

Cons: Some lenders charge an origination fee, which could make this a costly option if you’re consolidating a lot of debt. If you have poor credit, you might not be able to get approved for a money-saving interest rate.

Use a balance transfer credit card

Balance transfer credit cards typically offer an introductory 0 percent interest rate on balances that you transfer to the card within a certain amount of time — and sometimes even on purchases.

Pros: If you transfer and repay the debt during the promotional period, you could avoid paying interest entirely.

Cons: Some cards charge a balance transfer fee, such as 3 percent or $5, on the amounts you transfer. Also, the combined transferred amounts and fees usually cannot be higher than your credit limit, which might not accommodate all your debts. Some lenders also don’t allow you to use a balance transfer to pay off credit cards or loans from the same lender.

Borrow or withdraw money from a qualified retirement account.

If you’ve been putting money away in a retirement account, such as an employer-sponsored 401(k) or an IRA, you might be able to use those funds to pay off your debts.

Pros: There’s no credit check to take money out of your retirement accounts. With a loan from a qualified plan, such as a qualified 401(k), you may avoid paying an early withdrawal penalty in a few different circumstances.

Cons: You lower your retirement savings, and you may have to pay income taxes and an early withdrawal penalty if you’re younger than 59 ½. Also, you can usually only borrow up to 50 percent of your account balance (up to $50,000), and you must pay back the money within five years unless you’re using it to buy a home that will be your principal residence.

You may want to make this option a last resort.

Eric Klein, an attorney with the Klein Law Group in South Florida recommends, “Never, ever use your qualified money (401(k), IRA, pension, etc.) to consolidate credit card debt.” In addition to the reasons above, he explains that your qualified money could be protected from creditors if it’s in a retirement account.

Borrow against your home or vehicle

You may be able to take money out of your home or vehicle by using a cash-out refinance or a HELOC. Banks, credit unions and online lenders offer these options to consumers.

Pros: The interest rate on home and auto loans may be lower than on credit cards, partially because they’re secured loans. Also, the mortgage interest payments can typically be a tax write-off (up to a certain amount).

Cons: You may need good credit to qualify for a low interest rate. You’re also taking on secured debt in exchange for paying off your unsecured credit card debt. If you’re unable to pay the bill, you risk losing your home or vehicle. Klein says that putting something at risk that doesn’t have to be put at risk might not make sense.

Work with a nonprofit credit counseling organization

Credit counseling organizations are often nonprofits that offer people advice and help them create plans for paying off their debts. Look for a National Foundation for Credit Counseling (NFCC) accredited organization if you’re considering this route.

Pros: You may be able to set up a debt management program or plan. This typically involves you making a single payment to the credit counseling company, which in turn pays each of your creditors. Sometimes, the organization can negotiate lower interest rates or monthly payments on your behalf.

Cons: There may be a small fee to get set up as well as a monthly service fee. Also, “some of these companies will require that you close your credit cards once you pay them off,” says Maggie Germano, founder of a financial coaching service in Washington, D.C. Closing accounts isn’t always bad, but it could hurt your credit.

Borrow money from a friend or family member

Turning to relatives or friends for money truly puts the personal into personal finance. Proceed with caution.

Pros: There’s no credit check, and you may be able to get a lower interest rate than a financial institution will offer you.

Cons: You’re putting your personal relationships at risk, and potentially putting the other person’s finances at risk if you’re unable to pay them back in the future. The other person might also expect you to reciprocate the favor when they need help.


Bottom line

Did one of the options draw your attention? Huettner says there’s no “silver bullet” to consolidating credit card debt because “each option is always relative to the others, and they all depend on each person’s financial picture.”

However, you may want to start with the options that don’t require you to take on a new secured debt or threaten otherwise protected money. Using your home, vehicle or funds from a retirement account could expose you to new types of risk.

Huettner says that before you choose any option, “you need to be realistic and create a plan you can stick to no matter what.”


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