What is Debt Consolidation? How Credit Card Balance Transfers Can Help Streamline Debt

Wouldn’t you just love to bury your debt six feet under? Finish it off, set it ablaze, with a stake pounded through its heart. 

Sure, you can fantasize about the many ways to get rid of your debts. But, a savvier plan is to hogtie them together in one big ol’ pile, then go after it with the perseverance of a hound dog on a scent trail. That’s called debt consolidation.

Debt consolidation means combining multiple debts into one, including through balance transfer credit cards or personal loans, to streamline payments and potentially lower interest costs.

Well, this may be your lucky day. I’m going to show you how to get a handle on your debt through consolidation. The best part? You don’t have to work up a sweat to get the job done.

Let’s talk about why you’d want to consolidate your credit card debts into one bundle and what good that can do for you. 

When you lasso your debts together, the biggest benefit is that you can lower your interest rates and make one payment without all the drama.

Simplifying Multiple Payments

When you’re spread thin with a bunch of debts to pay off, you can feel like you’re chasing your tail. But rolling all those debts into one simplifies things mighty fast, so you’ve got just one debt you’ve got to concern yourself with. 

Besides potential lower interest rates, another significant perk of debt consolidation is that you only need to make one payment instead of keeping up with due dates on different credit cards.

That means fewer due dates, less head-scratching over whether you’ll have the cash to make the payments, and maybe a little more peace of mind.

Now, imagine you owe money on five credit cards, all with different due dates. Instead of having to remember those, now you only have to recall one set date every month. And with that kind of setup, you’re less likely to miss a payment, which could also help you sidestep late fees and penalty rates. 

Potential Lower Interest Rates 

One great thing about debt consolidation is that it may reduce your interest payments. The APR on a consolidation loan or balance transfer rate may be smaller than the sky-high rates most credit cards charge. That’s money in your pocket, friend.

For example, suppose you owe $10,000 to various cards at an average rate of 20%. Consolidating all that on a balance transfer credit card with an introductory 0% APR could save you hundreds or even thousands of dollars if you pay it off during the promotional period. 

Here is a look at some of the other aspects of two popular debt consolidation methods — personal loans and balance transfer credit cards:

Just think of all that extra cash you’d be keeping instead of forking it over to the credit card companies! By snagging that lower rate, you can put the savings toward knocking out your debt quicker and enjoying debt-free living sooner. 

Every penny counts when it comes to interest payments, and consolidation options may allow you to keep more of that money working for you instead.

Improves Credit Utilization

Another beneficial aspect of debt consolidation is its effect on your credit utilization ratio. That’s the term for measuring how much credit you’re using on your credit cards compared to what’s available. 

If that ratio is high (over 30%), it tends to scare lenders, who generally like cardholders not to max out their credit. Consolidating debt is often the first step to lowering your utilization ratio, which can make you look better to lenders.

Here is an example of a consumer’s credit utilization ratio before transferring the balances on two credit cards:

Notice the credit utilization ratio is up to nearly 50%, but that ratio drops significantly once the Card A and Card B balances are transferred to Card C:

Now, when you’re using a big chunk of your available credit, it tends to drag your score down because lenders think you’re stretching your money a bit too thin. 

On the other hand, once you roll that credit card debt into one loan so that you can attack the single balance, your credit utilization can go down and give your credit score a boost. That is if you stop using the credit cards that you accumulated so much debt on in the first place. 

This side effect might not seem like a big deal, but it can be a game-changer for credit scores.

Credit scoring models such as FICO and VantageScore fixate on utilization ratio, and they typically prefer it under 30% — but the lower, the better. 

When you pay down your consolidated balance, you leave a bigger portion of your available credit untapped, which indicates that you have more control over your debt. This can work wonders on your credit score, especially if you keep up those steady, on-time payments. 

A better score doesn’t just look good; it can open the door to lower interest rates and more options if you need to borrow down the road.

When you’re neck-deep in credit card debt, a balance transfer credit card can be a pretty good tool for roping it all together. 

Used correctly, these cards help you consolidate what you owe, and typically offer the chance to save on interest while you pay down your balances.

Understanding Promotional APR Periods

One of the major draws of balance transfer cards is the 0% APR they often dangle as an introductory deal. That 0% rate usually ranges from six to 18 months, depending on the card, but we’ve seen promotional periods as high as 24 months.

Every dollar you pay during that time goes directly toward shaving down your balance without interest hitching a ride.

This no-interest window of opportunity can allow you to make serious headway on your debt, especially if you stay focused and keep chipping at that balance little by little. Think of it like a no-cost jump-start.

But just a little warning: Some cards impose a short deadline of 45 to 60 days after opening the account to transfer balances at the promotional rate. If you miss that cutoff, that precious 0% could fly out the window.

Evaluating Balance Transfer Fees

Most balance transfer cards charge a fee, usually between 3% and 5% of the amount you transfer. On a balance transfer of $5,000, that means you can expect to pay an out-of-the-gate fee ranging from $150 to $250.

So, before you transfer that balance, make sure that the savings you’ll get with the 0% APR outweigh the upfront fee. 

A little math can save you from folly. And if that 3% to 5% fee is going to make you break even, it may be easier to just focus on paying off the debt on your current card.

Managing Payments During the Promotional Period

The 0% APR period is the time to buckle down and stay disciplined with your payments so you can fully enjoy that interest-free ride. Each dollar you pay in this period knocks down the principal only, without any interest tagging along. 

But there are a couple of catches. One is that you can’t rack up more debt on the credit cards that you transferred the balances from. Going on a spending spree could easily cancel out any gains you make by paying off the debt with a 0% APR.

Once the promotional period ends, your credit card APR jumps to the regular rate and your leftover balance starts accruing interest.

When that promotional period runs out, that APR jumps up to the far higher regular rate. If by then you still haven’t wiped out your debt, the remaining balance will accrue interest that swells up faster than a sinus infection.

You should also not be late with even one payment! Miss one, and the card issuer may rescind the promotional rate and switch you to the regular rate — or even a penalty APR. You’ll wind up paying lots more interest than you bargained for, so keep those payments coming on time, like the rooster’s call at sunrise.

It’s wise to be prepared for what changes debt consolidation may cause to your credit score, both in the immediate future and in the long run. 

Some changes might hit you quicker than a rattlesnake strike, while others take time to show their colors.

Initial Hard Inquiry

The first thing that is going to happen when you open a new loan or balance transfer card is there’s going to be a hard inquiry. That’s the lingo for when a lender pulls your credit report to see what kind of borrower you are. 

This little ding to your score is often no bigger than a gnat’s hiccup, perhaps taking only a couple of points off your score. But don’t be too worried; it is a temporary setback and often fades after a few months — although the inquiry will remain on your report for two years.

Here is a list of how long inquiries and other items can stick around on your credit report:

Your score dips partly because you’re applying to open a new account, which lenders see as taking on additional credit. That new line of credit could make them reassess your profile to determine if you’re assuming more debt than you can handle.

Hard inquiries are considered in FICO’s scoring formula but are weighted rather lightly. The formula looks for a pattern of multiple inquiries. Therefore, just one hard pull doesn’t shake your credit much, but if you open several accounts at once, FICO may ding your score harder.

Positive Long-Term Effects

Once you’ve consolidated your debts, the true benefits begin to sprout when you make steady, on-time payments. 

Every timely payment you make increases your creditworthiness bit by bit, showing lenders that you’re serious about paying down what you owe. In time, that consistency just might goose your score into a steady climb.

Another big plus of paying down your consolidated debt comes from lowering your credit utilization ratio (as I mentioned above). The less credit in use, the more reliable lenders find you, giving your credit score a leg up.

Potential Credit Risks

Now, while debt consolidation can be a fine thing, it isn’t without some risks. Missing a payment on your new loan or balance transfer can create a hornet’s nest of trouble. 

One late payment past 30 days can quickly drop points off your score, so you must keep those payments as timely as you schedule for milking the cows. 

Only after 30 days does an overdue payment get reported by the credit card company to the credit bureaus. Missing just one 30-day deadline can trigger a nasty hit that gets worse over time.

You may also cause a little damage to your score by closing an old account. This is because it shortens the length of your credit history, which FICO considers when calculating your score. 

The shorter your history, the fewer credit score points you may earn for having a solid track record. It’s wise to rethink shutting down accounts that you’ve held for a long time.

When you think about bundling all your debts together, it’s smart to know the good, the bad, and the downright ugly before jumping in. 

Knowing what’s in store will help you make a decision that can help you get out of debt, not make a bigger mess.

Benefits 

Debt consolidation can work like magic, but only if you know how to wrangle it right. Here’s a look at some of the good stuff:

• Simplified payments: Instead of having a whole barnyard of different monthly payments, consolidation lets you corral them all into one. Since you’ll only have to make one payment every month, you’ll find it easier to avoid letting something slip through the cracks.
• Potential savings: An introductory 0% interest rate means you aren’t tossing as much money at the credit card companies, freeing up more money to put toward your debt, sure as shootin’.
• May raise your credit score: Consolidating your debts can help improve your credit score if it leads to a lower credit utilization ratio. Lenders swoon when you use less of your credit line. So, with regular payments, that score can start shining.

Potential Drawbacks

You can’t have a silver lining without a cloud hanging overhead. Here are a few cons to consider:

• Debt crisis: If you aren’t cautious, consolidation may lure you into digging a deeper debt hole. Without changing any spendthrift habits, you may just end up piling more debt on top of the debt you already owe. Best to lock those other credit cards up (the ones you transferred the balances from) before your debt runs wild again.
• Fees may outweigh benefits: Some consolidation loans have associated costs that’ll bite you like an overexcited kitten. Paying too much may offset the benefit you were figuring on. Always size up those fees first so that you don’t spend too much on something that’s supposed to save you money.

Debt consolidation can be a mighty useful tool if you know what you’re doing. Just make sure that you weigh the pros and cons so you don’t end up in a bigger mess than what you started with!

Debt consolidation can be a mighty good way to better manage your debt and credit if things have gotten a little out of hand. When debt piles up higher than a hayloft, debt consolidation can be the rope that helps you bundle it up.

Wrapping up those debts opens a clear path to get ahead and makes it easier to knock down what you owe. That sure as heck beats tripping over scattered payment dates and sky-high interest rates. With a bit of strategy and a full larder of discipline, consolidating debt can put you back in the saddle and work wonders for your financial health.