Debt consolidation loans: do they save money?
The short answer: a debt consolidation loan pays off several debts so you have one payment, ideally at a lower interest rate. It saves money if the rate is lower and the term isn't much longer, and you don't run the cards up again. Clearing £8,000 of card debt with a 3-year loan at 12.9% APR would cost about £1,593 in interest, against £3,231 paying the cards as they are.
An example: three debts
| Debt | Balance | APR | Paying | Interest until clear |
|---|---|---|---|---|
| Credit card 1 | £4,000 | 24.9% | £160 a month | £1,442 |
| Credit card 2 | £2,500 | 29.9% | £100 a month | £1,173 |
| Store card | £1,500 | 34.9% | £75 a month | £616 |
| Total | £8,000 | £335 | £3,231 |
Paying £335 a month in fixed amounts, the last card clears in about 37 months.
The same debt in one loan
| Option | Monthly payment | Total interest | Verdict |
|---|---|---|---|
| Keep paying the cards | £335 | £3,231 | – |
| 3-year loan at 12.9% | £266 | £1,593 | Saves £1,638 |
| 5-year loan at 12.9% | £179 | £2,725 | Saves £506, but takes longer |
| 3-year loan at 24.9% | £307 | £3,065 | Saves £166 |
The rate you are actually offered matters more than the advertised one. Representative APRs only need to go to 51% of successful applicants.
When it works
- The loan rate is clearly lower than the average rate on your debts.
- The term is similar to how long the debts would take anyway.
- You can afford the payment comfortably every month.
- You close, or at least stop using, the cards you cleared.
When it backfires
- Longer term, lower payment: the monthly cost falls but the total interest can rise.
- Running the cards up again: the most common problem. You end up with the loan and new card debt.
- Fees: some loans and brokers charge arrangement fees. Avoid paying an upfront fee to a broker.
- Secured loans: lower rates, but your home is at risk if you fall behind.
How to compare offers
- List your debts with balances, rates and monthly payments, so you know the number to beat.
- Use eligibility checkers on comparison sites or lender websites. They use a soft search, which doesn't affect your credit score, and show your chance of acceptance.
- Compare total cost, not just the monthly payment. Multiply the payment by the number of months and add any fees.
- Check the amount bands. Personal loan rates are often lowest between about £7,500 and £25,000. Borrowing slightly more to reach a cheaper band only helps if the extra goes straight back to the lender.
- Check early repayment terms, in case you want to clear it sooner. See paying off a personal loan early.
What happens to your credit score
Applying adds a hard search, which can lower your score slightly for a few months. Clearing card balances usually helps more: lenders look at how much of your available credit you use, and a card at 0% of its limit looks better than one at 90%. Closing old cards can shorten your credit history, though, so some people keep one paid-off card open with a low limit and no balance. Late payments on the new loan would do far more damage than any of this.
Make the plan stick
- Pay the cards off on the day the loan arrives. Some lenders pay the card companies directly.
- Lower or remove the card limits, or cut up the cards, so the debt can't build up again.
- Set the loan payment by direct debit for the day after payday.
- Look at why the debt built up. If spending is more than income each month, a budget has to come first; a loan only moves the problem.
- Keep a small emergency buffer so the next surprise bill doesn't go back on a card. See how much emergency fund you need.
Alternatives
- 0% balance transfer card: often cheaper than a loan if you can clear it within the 0% period, after a 2% to 3.5% transfer fee. See credit card interest explained.
- Avalanche or snowball: keep paying the same total and target one debt at a time. See which debt to pay off first.
- Free debt advice: if you are struggling to make payments, StepChange, National Debtline and Citizens Advice can help for free, including debt management plans and breathing space protection.
Already have a loan? See paying off a personal loan early.
Figures are illustrative and assume fixed rates and payments with no new spending. This is general information, not financial advice.
Common questions
Is a debt consolidation loan a good idea?
It can be, if the new loan has a lower rate than your current debts, you can afford the payments and you stop using the cards you paid off. It is a bad idea if it only lowers your payment by stretching the debt over many more years.
Does debt consolidation hurt your credit score?
Applying causes a hard search, which can dip your score briefly. Over time, paying the loan on time and using less of your credit card limits usually helps your score.
What credit score do I need for a consolidation loan?
The best advertised rates usually go to people with good credit. With a weaker record you may be offered a much higher rate, or turned down. Use eligibility checkers, which use a soft search, before applying.
What are the alternatives to a consolidation loan?
A 0% balance transfer credit card, paying debts off using the avalanche method, or free help from a debt charity such as StepChange or National Debtline, which can arrange a debt management plan.
Should I use a secured loan to consolidate debts?
Be very careful. A secured loan or remortgage puts your home at risk if you cannot pay, and spreading short-term debt over a long mortgage term can cost much more in total.