How to Find the Best Consolidation Loan Rates

When you have a lot of debt, it can feel overwhelming to try to manage it effectively. In some cases, consolidating all of that debt could help make your payments more manageable. Additionally, when approached in a way that’s appropriate for your situation, debt consolidation can also help you get out of debt faster.

A debt consolidation loan can help you simplify your finances by getting everything in one place. On top of that, depending on your current credit score, you might even be able to save money by getting a lower overall interest rate. Let’s take a look at how debt consolidation loans work as well as the average debt consolidation loan rates you might see.

What is a debt consolidation loan?

With a debt consolidation loan, you take out one large, new loan and use it to pay off your smaller debts. These loans are often used to consolidate credit card debt. Your debt consolidation loan is designed to get all of your debts under one umbrella. With one of these loans, you have one interest rate and one monthly payment.

Most debt consolidation loans focus on unsecured debts. Secured debt, like an auto loan or home loan, isn’t usually included in debt consolidation. Additionally, many private lenders won’t consolidate student loans. Instead, you need to look for a federal student loan consolidation program for your federal student loans or consider refinancing your private student loan debt.

How debt consolidation loans work

If you’re looking for how to pay off debt, one tool is a debt consolidation loan. Debt consolidation loans generally work in the same way, using these steps:

• You add up how much debt you have, based on all of your loan balances, usually including credit cards, personal loans, and other unsecured loans, such as payday loans.
• Once you know how much debt you want to be consolidated, you apply for a debt consolidation loan. The application process is typically short and involves providing information about yourself and your income and assets. Companies will often give you multiple loan options to choose from.
• If you’re approved, you use the amount you receive to pay off your smaller debts. Some companies will send funds in as little as one business day.
• Once your smaller debts are paid off, you only have one loan payment and one interest rate.
• As long as you don’t borrow more, you should be able to pay off your debt in a set amount of time.

If you’re having trouble managing multiple bills and multiple loan payments, debt consolidation can streamline your approach so that you only have to worry about a single payment, often with a fixed interest rate. Depending on the terms of your loan, this one payment can potentially be smaller than all of your previous loan payments put together.

Average debt consolidation loan rates

Your debt consolidation loan rate depends on different criteria. However, you’re likely to see average debt consolidation loan rates of between 6% and 36%. Your interest payment is a fee charged to you because you’re using the lender’s money. It’s how lenders make money.

Here are some of the average debt consolidation loan rates from top personal lenders.

When determining your interest rate for a debt consolidation loan, many lenders look at similar factors. How they weigh them and the specifics vary.

In many cases, your interest rate is a reflection of the type of risk a lender thinks you’ll present. If you’re considered a riskier borrower — more likely to default or miss payments — the lender will charge a higher rate. Those with lower risk factors are considered more likely to complete the loan term in full and often have a lower interest rate.

Your rate is likely to be based on the following factors:

Credit history and credit score

One of the biggest factors in the interest rate you receive on a debt consolidation loan is your credit score and overall creditworthiness. To qualify for the best rate, you need good to excellent credit. For example, you might need a credit score of at least 670 to even be considered for the best rates.

There are lenders that offer debt consolidation loans to those with poor credit to fair credit, but the average debt consolidation personal loan rates for those products are usually much higher. You’ll pay more money in interest fees if you have a lower score.

Proof of income and assets

Depending on the lender, you might be asked to provide proof of income. Lenders want to know you have a stable income that offers you the ability to make regular payments. You might also need to provide information about bank accounts.

In these cases, showing that you have other assets can let a lender know that you have other resources to draw on to make payments if you experience a drop in income.

Generally, if you have a higher income, you can expect to pay lower average debt consolidation loan rates, especially when combined with a good credit score.

Debt-to-income ratio

Another factor is how much you pay to service your debt relative to your monthly income. Your debt-to-income (DTI) ratio is expressed as a percentage. For example, if you make $4,000 per month and your total debt payments amount to $1,500 per month, your DTI is 37.5%. In this scenario, 37.5% of your monthly income is going toward making debt payments.

If you have a high DTI, you’re likely to pay a higher interest rate on your debt consolidation loan. By keeping your overall debt payments low in relation to your monthly income, you’re more likely to see a better interest rate.

Loan origination fee

Finally, some lenders charge an origination fee. This fee can be anywhere from as low as 1% of the amount you borrow to 10% of your total loan amount. Some lenders charge this fee upfront, reducing your total loan amount. Others, however, add the origination fee to your loan, which can increase the total amount paid over the life of the loan.

Make sure to pay attention to your total loan costs and whether a loan origination fee is increasing your total interest charges.

Prime rate

In general, lenders set their interest rates by looking at the prime rate, which is the best rate offered to well-qualified borrowers. This is a rate reported by large banks and posted by the Federal Reserve in the United States. In some cases, lenders base their own prime rate on the federal funds rate. This rate is set by the Federal Reserve and reflects what banks charge each other for short-term loans.

Depending on market conditions, the rate can rise or fall. The basics of setting average debt consolidation loan rates starts with what’s going on in the market and what other lenders are doing.

How to find the best consolidation loan rates

Getting the best debt consolidation loan rates requires a bit of work. It’s important to get the best possible rate because it will save you more money in the long run.

The less you pay in interest, the more your payments go to reduce your principal. Additionally, if you have a lower interest rate and are able to make additional payments, you can get rid of your debt faster.

Here are some of the steps you can take to ensure that you are paying the lowest possible interest rate on your debt consolidation loan:

Improve your credit score

One of the best ways to improve your chances of a lower interest rate on any loan is to keep track of your credit and work to improve your score.

The most popular credit scoring formula, FICO Score, takes into account the following factors:

Payment history (35%)

This considers whether you make your payments on time and in full. The more often you pay on time and the fewer missed payments you have, the better your score will likely be.

Amounts owed (30%)

Also called credit utilization, this factor measures how much of your available credit you’re using. If you’re using a high percentage of available credit, your score will likely be lower. 

Length of credit history (15%)

This includes how long you’ve been using credit, how old individual accounts are, and how often you use your accounts. Generally, the longer you've had a credit account in good standing, the more positively it will affect your credit score. 

Credit mix (10%)

Having different types of loans, such as installment loans (like mortgages and auto loans) or revolving loans (like credit cards, retail cards, and home equity lines of credit) can have a positive impact on this factor. 

New credit (10%)

Opening a large number of credit accounts in a short amount of time can negatively affect your credit score. Other ways this factor can affect your credit score are lowering the average age of your overall credit history and, when the new credit is used, increasing the amounts owed factor. New credit can have a positive effect on your credit score if it serves to diversify your credit mix or lowers the total amount of available credit you're using.

As you can see, the most important factors, whether you pay on time and how much of your current credit you’re using, account for a big chunk of your credit score. If you want to improve your score fast, consider paying down some of your existing debt and making sure you pay on time.

Get multiple quotes

Compare different loan offers. Consider getting quotes from at least three to five lenders. Many lenders will use a soft credit pull for prequalification, which won’t affect your credit score, to give you approval odds and a rate quote. Once you decide to apply, though, a hard credit inquiry will be made and your final interest rate offered.

Don’t overlook credit unions and local lenders

While you can often find good deals online, you might be surprised at what’s available at smaller, local institutions. When getting quotes, don’t forget to check with credit unions and local lenders to see if you can get a better deal — especially if you’re already a customer.

Use a shorter loan term

In general, loans with longer repayment terms have higher interest rates than loans with shorter terms. For example, a loan with a five-year repayment term may have an interest rate a couple of percentage points higher than one with a three-year term.

Alternatives to debt consolidation

If you aren’t interested in a traditional debt consolidation loan, there are other options to consider.

Balance transfer credit cards

If you have several smaller balances, you can move them all to one balance transfer credit card with a low introductory rate. Some cards offer a 0% introductory annual percentage rate (APR) for up to 24 months, allowing you to tackle your debt quickly. However, you need to pay off your debt before the introductory period ends or you run the risk of ending up with an even higher rate. You’ll also need to pay a balance transfer fee in most cases.

Home equity loans and lines of credit

Many debt consolidation loans are unsecured personal loans. You can often get a lower rate by securing your debt with your home in the form of a home equity loan or home equity line of credit. These secured loans can work with large amounts of debt, especially if you have a lot of equity in your home. However, if you are using your home’s equity to pay off your loans and you default on your loan, you could end up losing your house.

Student loan refinancing

For private student loan debt, refinancing to a lower rate could help make your payments more manageable. Be careful about refinancing federal student loans, though, because you can lose protections such as income-driven repayment plans and loan forgiveness programs. Federal student loan consolidation can put your federal student loans in one place without risking the loss of federal student loan benefits.

401(k) loans

If you have a large retirement account balance, you can borrow money from your 401(k). Generally, you make payments back into your account, so you’re borrowing from yourself. However, the balance becomes due within 60 days if you leave or lose your job. Additionally, you miss out on potential gains while the money is absent from your account.

FAQ

Bottom line

Debt management can be a challenge. Debt consolidation loans can help you refinance your debt so you can better manage your high-interest debt, especially if you have a lot of different payments and interest rates. However, your best results will come if you have good to excellent credit and you have a plan to pay down your balance without amassing more debt.

If you’re interested in getting a debt consolidation loan to improve your finances, you can apply with one of the best debt consolidation companies.

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