When Consolidating Debt Is (and Isn't) a Good Idea

If you're feeling overwhelmed by debt and making the monthly minimum payment just isn't cutting it, loan consolidation may be an option to consider.

What is debt consolidation?
Debt consolidation is when you combine several debts, whether it's loans, medical bills, car payments or credit cards, into one monthly payment—ideally with a lower interest rate. Depending on your situation and your lender, personal loan consolidation can significantly reduce your monthly payments. But, do your research. It can also push you further into debt.

Here are three ways to tell if debt consolidation is right for you:

You're dealing with manageable debt—Before you consider debt consolidation, take a good, hard look at your debt total. If it's something you could pay off in six months to a year with a little self-control, it's probably not necessary. Lay out a plan to pay it off as quickly as possible, then stick to it.

Similarly, if you're debt is more than 50 percent of your annual income, debt consolidation may not be the best course of action. In this case, investigate a debt relief program. Your credit may take a hit but, during a serious financial crisis, it may be your best option.  

If your debt falls somewhere in between, a personal loan consolidation may be just the thing to speed up the debt-repayment process. If you're unsure where your debt total falls, use a loan consolidation calculator. Check with your financial institution for repayment options on different debt profiles.

You're ready to change your spending habits—Before you consider debt consolidation, make sure your spending habits are in order. Analyze how the debt was accrued and what you can do to prevent it from happening again. Furthermore, figure out how much you'll owe each month, work it into your budget and commit to make the payments on time. Debt consolidation can help you get control of your finances again, but it can't fix unhealthy habits. Work with a financial advisor to set realistic goals and get back on the right track.

Your home and retirement plans are secure—Some forms of debt consolidation involve refinancing your home or 401(k). While these loan rate options are usually lower than the interest on a credit card, you end up risking much more than money. Losing your home or long-term savings isn’t worth it. Instead, talk to your bank or credit union about a personal debt consolidation plan tailored to your specific debt.

It’s good to have an option to help with your debt, like loan consolidation, but it may not work for your situation. Be sure to consider all the possibilities before making the move.