Have you been keeping an eye out for the best way to save money with debt consolidation? We’ll help you figure it out.
By definition, debt consolidation focuses not so much on saving you money as it does reduce the number of debts you hold. If you go through a process that turns five debts into one debt, then that process is a form of debt consolidation.
That said, the best debt consolidations do end up saving the debtor a ton of money both now and down the road. Ideally, you get out of debt faster, and for less money than you would have otherwise.
The sources of these savings are usually the saved money from reduced interest rates, lower monthly payments, and sometimes, even a dramatically reduced overall debt load.
How these savings happen, depends on the type of debt consolidation you end up with. Let’s look at a few different variations of debt consolidation, and look at how they might save you money, in the best-case scenarios. After that, we’ll touch on how you can calculate how much you stand to save.
The different forms of debt consolidation, as well as how they save you money
As we’ve already stated, debt consolidation can come in many different forms. As long as you make several debts into one debt, you’ve undergone debt consolidation.
Under this rather wide umbrella, a few methods of debt consolidation are definitely more popular than others are. They aren’t the only methods out there, but they’re the ones you’re most likely to run into, namely balance transfer credit cards, personal loans, debt management, and debt settlement.
Balance transfer credit cards
With balance transfer credit cards, you seek out a credit card with a high potential spending limit and a low introductory interest rate (ideally, 0%). These low-to-no interest promotions attract new cardholders by limiting the amount of accruing interest on their accounts. For the credit card companies, it’s a gamble: they’re betting that you keep holding a balance on the card even after the promotional interest rate ends. At that point, the interest rate rises, sometimes even retroactively from the point you acquired the card if you don’t pay the balance off entirely during the promo period.
When you use a balance transfer credit card for debt consolidation, you’re on the other side of this gamble. You open up the new card and immediately use it to pay off all your other debts, consolidating them to one single credit card. Then, you do your best to pay that credit card off before the promotional interest rate ends, ideally without using it for any other purchases.
As you might imagine, this method is only effective if you’re holding on to a relatively small amount of debt (usually credit card debt). Most likely, you won’t qualify for an astronomically high credit limit that would allow you to pay off things such as a student loan or car loan.
A balance transfer credit card saves you money by drastically decreasing the amount of interest you pay on your debt over time. Interest, not the principal amount of the debt, is usually what makes paying off debt so onerous. It adds up quick and compounds exponentially over time, adding quite a bit to your total debt burden. By using a balance transfer credit card, you essentially freeze the compounding of interest on different credit cards so that every dollar you pay goes toward repaying the actual debt.
A word of warning, if you consolidate your debts with a balance transfer credit card, make sure that you hold yourself back from actually using the card (or any other credit card, for that matter). You’re in a race against the clock to pay down your debts, so make every second count.
Consolidating your debt with a personal loan is probably the most common debt consolidation method and, generally, what people think of when they think about debt consolidation. You go to a lender and apply for a loan equal to the total amount of all of your debt. The lender will check your credit and make sure that you’re a worthy risk. If it likes what it sees, it’ll offer you the loan. You then use the loan to pay off your debts and focus on making a single monthly payment on the loan until you’re debt-free. It’s as simple as that.
These debt consolidation loans generally come in two varieties: secured and unsecured. With a secured loan, you’re required to put down some kind of collateral in order to get the loan (usually your car, your house, or some other major asset). With an unsecured loan, all you have to do is sign on the dotted line and the loan is yours.
Lenders typically offer secured loans to people with less-than-stellar credit, or those asking for larger amounts. They may also try to sweeten the pot by offering reduced interest rates for secured loans. By their calculations, this makes sense: with a secured loan, they’re taking on less risk, so they don’t need to charge astronomical rates to cover themselves.
Still, unsecured loans are generally preferable for people seeking debt consolidation. Higher interest rates aside, you don’t want to be worse off in the end.
How do personal loans for debt consolidation save you money? In most cases, personal loans come with much lower interest rates than other common forms of debt such as credit cards. These lower rates reduce the amount of debt you’ll end up paying back over time. In many cases, they may also reduce the total amount that you pay each month to your creditors. While a single loan payment is likely to be higher than a single credit card payment, when you’re rolling five or six credit cards into the loan, you’re very likely to save money each month and get out of debt faster than you would otherwise.
With debt management, you’re generally working with a credit counseling company that you hire to help you to deal with outstanding and overwhelming amounts of debt. Usually, these credit counselors are non-profit organizations, but not always.
Part of your debt management program will likely be simple financial education: making a budget, controlling spending, etc. Another part may be enforced financial discipline. You may not be able to spend on credit, and some programs may even require you to close your credit accounts in order to enter the program.
The debt consolidation here comes from the payments that you make to the debt management company. Each month, you’ll likely make a single payment to the debt management company, which then distributes payments to your various creditors.
In fact, this is where the savings come in. Debt management companies are adept at negotiating with creditors to win concessions such as reduced interest rates and even decreased overall debt. They show your creditors that, since you’re in a debt management program, you’re likely in dire financial straits but also taking your debt obligations seriously. Your creditors agree to take slight reductions in payments as long as the payments keep coming.
Debt settlement has some similarities with debt management. With debt settlement, you pay a third-party company a set amount each month instead of paying all your various creditors, essentially consolidating your debt payments. And, that company does negotiate with your creditors on your behalf.
However, that’s about where the similarities end. Debt settlement is a much more aggressive form of consolidation that potentially comes with much bigger savings.
With debt settlement, you hire a third-party company to attempt to settle your debt for good, not just help you to pay it off. You cease all payments to your creditors, instead of paying a lump sum to the debt settlement company each month that goes into a savings account.
As you might imagine, your creditors won’t be too happy with this. A good debt settlement company will be able to handle the brunt of the harassment for you, but your credit score will likely take a hit. That goes double if your debt settlement agency forces you to close your existing lines of credit down as well.
These drawbacks are worth it much of the time, though, if the debt settlement company succeeds at settling your debt. After you’ve saved up enough money with the debt settlement company, it goes to your creditors with a deal: take a lump payment now and forgive the rest of the outstanding debt.
Many creditors take this deal. After all, you’ve ceased payments on your debt, so the deal often ends up being its best chance at recouping anything.
How does debt settlement save you money? On one hand, you’ll likely reduce the amount that you pay each month on your debt, as the amount that you pay to the settlement company might end up being less than the total amount that you were paying in minimum monthly payments.
The real savings, however, comes from the settlement itself. Debt settlement companies make their names by getting creditors to agree to accept debt payments that are dramatically less than the total amount owed. When a debt settlement goes smoothly, the overall savings are hard to beat.
Which type of debt consolidation will save you the most money?
Now that you understand the ins and outs of a few different forms of debt consolidation, you’re probably wondering which kind of consolidation is right for you. While there is no simple answer to this question, there are ways to estimate what your best option would be.
Our suggestion: use our free debt calculator and crunch the numbers yourself.
How to use our free debt calculator
Using our debt calculator is simple. We figured out the formulas; all you need to do is enter some numbers and you’re good to go.
You’ll need three numbers to calculate your best debt relief option. The first is the total amount of your unsecured debt (debt that doesn’t have collateral associated with it, usually credit cards, personal loans, and other similar debts). To find that, all you need to do is check your balance sheets and add up the figures.
Next, you’ll need the average interest rate for all those debts. Using the average isn’t exact, but it gives a close enough approximation that is easy to wrap your head around. Just look up the interest rates of your debts, add them up, and divide by the total number of debts that you have. If you can’t easily find your interest rate, ask your creditor.
Finally, input your desired program length. This is how long you want your debt relief program to run. The shorter the program, the higher your monthly payments will be, so be sure to play around with this number to find the program length that works for you.
Once you have these numbers, hit calculate. We’ll crunch the numbers and estimate how much it might cost you to get a consolidation loan, undergo credit counseling, or work with National Debt Relief. For comparison, we’ll also show you what it would cost you to keep making monthly minimum payments on your debt and do nothing else.
Give the calculator a shot and see for yourself what your options are. If you like what you see, give National Debt Relief a call today to talk about your options. We’ve helped scores of people overcome their debt issues; just check out our reviews.