Personal Loans for Debt Consolidation: How They Work and How to Get the Best Rate
Personal loans are a great tool for consolidating debt, because you can use them to pay off multiple debts, then focus on simply paying back the one loan. Ideally, this would be at a lower interest rate than you were paying on your other debts. Those are the two main benefits of using a personal loan for debt consolidation — simplified repayment and interest savings.
If you’re overwhelmed by high-interest debt from multiple sources, you may be looking at personal loans. We’ll go over how it works, when it makes the most sense, alternatives like balance transfers and how to potentially get a lower rate.
What Is a Debt Consolidation Loan?
A debt consolidation loan is a loan that you use to pay off multiple debts with the goal of combining them into a single monthly payment at a lower interest rate. It’s one of several options for consolidating your debt. You can also use a debt management plan or a balance transfer card, which we’ll talk more about later.
You pay back personal loans within a set period of time — most often between one and seven years — at an interest rate typically between 6% and 36%. Most lenders loan between $5,000 and $50,000, but some offer as little as $1,000 or up to $100,000.
People often use debt consolidation loans when they owe on multiple credit cards, especially considering that credit cards typically have pretty high interest rates. You could also use it to consolidate medical bills and other personal loans.
How a Debt Consolidation Loan Works
First and foremost, you need to figure out how much money you need and find a lender willing to loan that amount to you at an interest rate that will save you money. You can do this kind of research yourself, or use marketplaces like AmOne to match you with offers from popular lenders. You can get quotes without formally applying with a process called prequalification. Lenders will use a soft credit pull (the kind that doesn’t affect your score) to check your credit history and use that information to form their offer.
From there, here’s a look at how it works:
- You apply for the loan, which will affect your credit score because it generates a hard inquiry. This is normal and temporary.
- Once you’re approved, you will likely receive the money within a few business days, though some lenders advertise next-day funds.
- You use that money to pay off your existing balances. This could be credit cards, medical bills and other personal loans.
- Once your balances are paid, you’re left with one monthly payment, and you pay the amount back over the set term.
It’s important to note that, while consolidating debt into one payment is beneficial in its own right, it really only makes sense to do if you’ll save on interest. Personal loans can still come with high interest rates, just like credit cards. If you can manage multiple payments for a little while longer, try improving your credit score so you can get a better rate. Those who are too overwhelmed to keep up can look into credit counseling and debt management plans.
Pros and Cons of a Debt Consolidation Loan
Pros
- Potentially lower interest rate
- Single monthly payment
- Set payoff date
- No collateral, which is when you use an asset like a house or vehicle to back the loan
- Helps your credit with on-time payments and lowering your utilization
Cons
- May have an origination fee
- Need good credit for a good interest rate
- Longer term length can negate savings
Personal Loan vs. Balance Transfer Card for Consolidation
Personal loans and balance transfer cards can both consolidate debt. A personal loan is a set amount that you borrow with the intention of paying off multiple debts, then you focus on the single repayment. A balance transfer card allows you to transfer multiple debts to that card, which also has a 0% APR period. During that period, which is typically from 15-21 months, you won’t have to pay interest.
Personal loans are better for larger balances that you’ll need multiple years to pay off. If you have smaller balances that you could pay back within the 0% APR period, the balance transfer card may be the way to go. Just watch out for balance transfer fees, which are often 3%-5% of the transferred amount, according to Experian. Also, expect to pay a standard credit card interest rate once that promo period ends. That’s why it’s so important that you’re able to pay it back before then.
Our guide on credit card debt consolidation explains more about your options.
Do You Qualify? What Credit Score You Need
It is possible to get a personal loan with bad credit. However, the higher your credit score, the lower your interest rate likely will be. Lenders take other things like your income and debt-to-income ratio into consideration, but your credit score is the biggest factor. We also have a guide on how personal loan rates work.
Some lenders may have a minimum credit score you must have before you can take out a loan with them. Experian says you can expect this to be about 580 or above. There are debt consolidation loans for bad credit, but you get the most favorable terms —a lower interest rate and fewer fees — with a score closer to the 700s. You can see the rate you’d get without formally applying through the prequalification process.
If your credit score is less than stellar and you’re struggling to keep up with your debt, these are alternatives to debt consolidation for those with bad credit.
How to Get a Debt Consolidation Loan
Follow these steps if you’re interested in a debt consolidation loan:
- Add up the debts you want to consolidate and their interest rates
- Check your credit and prequalify with a soft pull to see offered rates
- Compare APR (which includes interest rate and fees like origination fees), term and funding speed across lenders
- Choose a lender
- Apply, then use the funds to pay off your old balances
- Make one on-time payment each month — and avoid running up the paid-off cards again
How to Choose the Best Debt Consolidation Loan
The best consolidation loan for you is the one that will save you money in the long run and can make your finances less overwhelming. There are several factors that can affect this. Look out for:
- Origination fees. Some lenders charge these to cover the cost of issuing you the loan. Not every lender will have them, but if they do, expect it to be around 1% to 8% of the loan amount, according to Citi.
- APR. The annual percentage rate is the total cost of taking out the loan, so it includes the interest rate and other fees.
- Funding speed. If you need money ASAP, not every lender can accommodate. Some advertise next-day funds. Otherwise, expect it to take a few business days for the money to hit your account.
- Term length. A longer term length might mean lower monthly payments, but you’ll likely pay more interest over time.
- Prepayment penalties. Some lenders will charge you a fee if you pay off the loan early. This is typically a percentage of the outstanding balance or a flat fee.
Look at the interest rates of the debts you currently owe and compare it to offers from different lenders. Combining debts into one payment is more convenient, but if you will pay more interest over time, it may not be the right path. There are other options for managing debt. But if you’re committed to this path and can hold off on consolidating, taking the time to boost your credit score can get you more favorable terms.
If you want to make your research easier, you can compare your options with marketplaces like AmOne.
Does a Debt Consolidation Loan Hurt Your Credit?
Applying for the loan may cause a temporary dip in your score because of the hard inquiry. So, it’s a good idea to avoid pursuing anything you want your credit score to be at its best for, like applying for a mortgage.
Over time, however, the loan should boost your credit. The on-time payments build positive history, and as you pay down more of it, your utilization goes down. Payment history and how much you owe are the two biggest factors in your score, according to Experian.
Explain the credit arc: applying triggers a hard inquiry (a small, temporary dip), but responsibly used, a consolidation loan often helps over time — it can lower your credit utilization and, with on-time payments, build positive history. The risk is running the paid-off cards back up.
Alternatives to a Debt Consolidation Loan
There are other ways to tackle debt outside of a debt consolidation loan. These options include:
- Balance transfer card. These are credit cards that allow you to move existing debts to it, and you don’t have to pay interest for a set period of time, usually 15-21 months. These typically come with fees, and the interest rates after the 0% APR period can be high. It’s best to use this method when you have a smaller balance you can pay off during that period. Here are our favorite balance transfer cards.
- Home equity loan. This is when you borrow against the value of your house. It’s similar to a personal loan in that you get a lump sum that you pay back over time in fixed monthly payments. The collateral (your home) may help you get more favorable terms.
- Credit counseling. You can get credit counseling through a nonprofit, which is best for people who mostly are struggling with getting a handle on their finances. Counselors can help you create a budget and a plan for how to tackle your debt.
- Debt management plan. Credit counselors may also put you on a debt management plan, which is another way to consolidate your debt. The counselors will try to negotiate more manageable fees or interest rates, then you pay the credit counselor, and they pay your lenders for you. We have a more detailed explainer on how debt management plans work.
- Debt relief. Debt consolidation is a form of debt relief, but the term also includes things like bankruptcy and debt settlement with companies like National Debt Relief. Those are best for people in extreme financial hardship, because they have lasting consequences like credit score damage and possible lawsuits. Read our deep dive on debt relief options.
Frequently Asked Questions
It can be, if it lowers your interest costs and simplifies your payments. A consolidation loan makes the most sense when you can qualify for a lower interest rate than you’re paying now and you can comfortably afford the fixed monthly payment. That combination saves money and gives you a clear payoff date. It’s less helpful if you can only qualify at a high rate, if you’d stretch the term so long that you pay more interest overall, or if the spending that created the debt isn’t addressed. Run the numbers on a calculator before committing.
The lowest rates go to borrowers with good-to-excellent credit, but there are lenders that work with fair credit — usually at higher rates. Because a consolidation loan only helps if the new rate beats what you’re paying now, your credit is a big factor in whether it’s worth it. Prequalify with a soft credit check first to see your actual rate without affecting your score, and if your credit is poor, take some time to try to improve it before you apply.
In the short term it can dip slightly, because applying adds a hard inquiry. But used responsibly, it often helps: paying off credit cards with the loan lowers your credit utilization, and on-time loan payments build positive history — both of which can raise your score over time. Just make sure to make your payments on time.
It depends on your balance and how fast you can repay it. A 0% APR balance transfer card can be cheaper for a smaller balance you’re confident you can clear before the promo period ends — just watch the transfer fee and the rate after the intro window. A personal loan usually wins for larger balances or when you need more than a year or two to pay it off, because it gives you a fixed rate and a set payoff schedule. Compare both before deciding.
