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If you’re juggling multiple credit card bills and struggling to keep track of what’s due when, or if you’re paying interest charges on credit cards with high APRs, consolidating your debt may provide you some relief. But, is it better to look at a balance transfer credit card or a personal loan to lighten your load?
- How debt consolidation works
- Using a balance transfer credit card to consolidate debt
- Using a personal loan to consolidate debt
- Debt consolidation FAQ
- The bottom line
How debt consolidation works
Whether you choose to apply for an introductory 0% APR balance transfer credit card or a personal loan to consolidate debt, the starting point is likely the same. You have multiple sources of debt and you’re making multiple monthly payments to cover them. Whether for convenience or the opportunity to save money on interest charges, or both, you’d like to combine your multiple payments into one monthly payment. You’re taking on a new debt to pay off the old ones, essentially. We’ll walk you through the pros and cons of each option.
Using a balance transfer credit card to consolidate debt
A balance transfer allows you to move high-interest credit card balances to a new balance transfer card (along with a fee of 3%-5% or each transfer, in many cases). Because balance transfer cards offer anywhere from 6 to 21 months of an introductory 0% APR, that means you aren’t accruing interest charges during that time frame. This can help you get out of debt faster because your debt isn’t growing as you pay it down, which is the situation you might find yourself in with high-interest credit card debt.
Avoid interest charges for a limited period of time. If your credit is in good standing and you can qualify for a credit card with a generous balance transfer offer, you could get a 0% introductory APR for up to 21 months. As long as you stick to a budget and pay off your debt within the intro period, all of your payments will go to the debt principal and you won’t pay anything in interest. Just don’t be tempted to spend on your new card or on the cards you transfer your balances from.
“Balance transfers address the symptoms of debt, not the cause,” said Todd Christensen, education manager for Money Fit by DRS Inc. “Make sure to understand how you got into overwhelming debt and that you have taken measures to avoid additional debt in the future.”
Increases your available credit. How much credit card debt you’re carrying divided by your total credit limit determines your credit utilization ratio. It’s best to keep your utilization low, because the higher your utilization the more your credit score will be negatively impacted. For example, if you have two credit cards each with a limit of $5,000, your total credit limit is $10,000. And to stay within the recommended 30% utilization, you should have no more than $3,000 on those cards at any time.
Getting approved for a new credit card will immediately increase your available credit and eventually decrease your utilization. In the long run, this should have a positive impact on your score. Initially, however, your credit score may dip with a hard inquiry from the credit card application as well as almost maxing out a new balance transfer card with the transferred debt, but your scores will eventually rebound to a better place once you start whittling down that new card balance.
Ongoing value after you pay off your debt. Some balance transfer cards earn cash back or points. We don’t recommend trying to earn rewards with a balance transfer card while you’re paying down transferred debt — that’s a recipe for getting deeper into debt. But once you’ve paid off the balance, you might want to think about using the card for day-to-day purchases going forward. For example, the Discover it® Balance Transfer lets you Earn 5% cash back on everyday purchases at different places each quarter like grocery stores, restaurants, gas stations, select rideshares and online shopping, up to the quarterly maximum when you activate. Plus, earn unlimited 1% cash back on all other purchases - automatically.
The 0% intro APR period will expire. Make sure you read your cardmember agreement so you know what your APR will revert to once the intro period expires. It could be in the 20% range, which means if you don’t pay off the debt in full within the intro period, interest charges might be expensive. However, if you are able to pay off a large chunk of debt during the no-interest period and just have a small balance left over after that intro period expires, know that only the remaining balance will be subject to interest charges.
Our balance transfer calculator can help you estimate how much time you need to pay off debt and how much you’ll need to pay each month using a balance transfer card, as well as how much you’ll pay in interest if you don’t manage to pay off the full amount within the intro period.
A card won’t require you to pay in full by a set deadline. While a loan has a set date to pay it off, a balance transfer card will let you carry a balance as long as you keep making the minimum monthly payment. While flexibility can be a good thing, it’s more likely a pitfall that makes it harder to pay off your debt in a timely manner.
The credit limit on the new card may not be high enough. Even if you’re approved for the balance transfer card you want, you might not get a high enough credit limit to transfer all your debt. And even if your credit limit is high enough to cover the total amount, the card issuer might set a cap on how much is allowed to be transferred. If you run into this situation, you’ll have to decide whether to apply for another balance transfer card, leave the remaining balance where it’s at, or apply for a personal loan to cover the remainder.
You can’t transfer balances between cards from the same issuer. Be cognizant of this when choosing a balance transfer card to apply for. If your existing debt is on an American Express credit card, for example, you won’t be able to do a balance transfer to another Amex card.
You may have to pay a balance transfer fee. Many credit cards charge a balance transfer fee ranging from 3%-5% of the amount transferred. For example, if you’re paying a 3% balance transfer fee to transfer $1,000, that $30 is added to the transferred balance. Always do the math, but you may find that what you save in interest charges makes it worth paying the fee. There are also cards available that don’t charge a balance transfer fee, such as the Chase Slate® and The Amex EveryDay® Credit Card from American Express.
Good credit needed. It’s very unlikely you’ll get a balance transfer card without a credit score that’s “good” or better. Here’s how myFICO.com ranks good, very good and exceptional scores:
- Good: 670-739
- Very good: 740-799
- Exceptional: 800+
Puts a hard inquiry on your credit report. Some issuers allow you to check if you’re prequalified for a card, which is done with a “soft pull” that doesn’t hurt your credit score. But when you actually apply, that will be a “hard pull,” which knocks your score down a few points for a year and stays on your credit report for two years.
Using a personal loan to consolidate debt
You can apply for a personal loan with traditional banks, credit unions or online lenders. When you take out a personal loan, you agree to a fixed interest rate, a fixed payment amount and a set repayment time frame. If you want to pay your loan off early, you can usually do that, but some lenders will charge you a fee for doing so. Personal loans may be easier to qualify for than balance transfer cards if you have a less-than-stellar credit score, and may also allow you to borrow more money to pay off existing debt than a balance transfer card.
Potentially lower interest rate. If you’re struggling to pay down debt on credit cards with high APRs, a loan could be a way to get a lower interest rate and make payments more manageable with a finite repayment term. Even balance transfer cards offering 0% intro APR will charge interest once the intro period ends, so a loan can be a way to avoid being hit with a high APR down the road, and may be easier to qualify for than a balance transfer card.
More time to pay down debt. A personal loan can be a good choice if you need more time to pay off debt than a balance transfer card will provide. While it’s possible to find balance transfer cards that offer a 0% intro APR for up to 21 months, it’s more common to find cards with intro periods of 6 to 18 months. Loans may give as long as several years to pay off your debt.
A set monthly payment. When you take out a personal loan, you commit to paying a set amount every month. This is an advantage when compared with a credit card because it means you know exactly what you owe and when your debt will be paid in full.
“One of the biggest pros of taking out a personal loan is transparency,” said Matt Schulz, chief industry analyst for CompareCards.com. “You’ll know upfront exactly how much you’ll end up paying over the course of the loan, including the fixed amount you’ll have to pay each month. That makes them easier to budget for than credit cards.”
Adds to your credit mix. The variety of credit accounts that you have — such as credit cards, retail accounts, installment loans and more — makes up your credit score’s credit mix. This accounts for 10% of your score, according to myFICO.com. This means in the long run, taking out a personal loan to consolidate credit card debt could have a positive effect on your credit score.
Paying interest from the start. While a balance transfer card will give you a period of intro 0% APR, where 100% of your payment will be applied toward your debt principal rather than principal plus interest charges, loans offer no such intro period. From your very first payment you’ll be paying interest.
You may be charged an origination fee. Some lenders charge loan origination fees somewhere between 1% and 6% of the amount you’re borrowing. However, not all do, so research before you apply.
Also puts a hard inquiry on your credit. Credit card applications aren’t the only thing that puts a hard inquiry on your credit report? Applying for any credit product, including personal loans, auto loans and mortgages, will temporarily ding your score.
Debt consolidation FAQ
How can I consolidate credit card debt without hurting my credit score? Because you’ll need to apply for a new credit product (whether that be a balance transfer card or a personal loan) to consolidate credit card debt, your score will likely go down at first. But consolidating debt can help you pay down debt faster, and less debt is a good thing for your score as it should rebound over time.
Will a new credit card hurt my credit score? When you open a new credit card, it will result in a hard inquiry on your credit report. This will make your score dip at first, but over time, it can cause your score to improve as you’ll have more available credit as you pay your balances down. Just make sure not to increase your spending, otherwise you’ll negate the benefit of having a new card.
How will a personal loan affect my credit score? Applying for new credit of any kind will generate a hard inquiry on your credit report, so expect to see your score go down a few points at first. But if you keep making on-time payments that get reported to the credit bureaus (Equifax, Experian and TransUnion), you can reasonably hope to see your score improve. Plus, using loan proceeds to pay off credit cards will decrease your credit utilization on those cards, thus boosting your credit score.
Can I qualify for a balance transfer card with a bad credit score? You are unlikely to be approved for a balance transfer card with a bad credit score. These cards tend to be aimed at consumers with good or excellent credit. A personal loan might be a better option.
How do I do a balance transfer? This will depend on the issuer. First, choose a card to apply for. If the issuer allows, check first if you’re prequalified for the card you want. Once you apply, follow the issuer’s instructions to do a balance transfer. You’ll need to enter information about the old accounts you want to transfer debt from. And if the card charges a balance transfer fee, you should expect to pay it for each transfer. For example, if you’re using a card that charges a 3% balance transfer fee and you transfer $3,000 from one card and $1,500 from another card, that’s $90 for the first transfer and $45 for the second, totaling $135 in balance transfer fees.
The bottom line
The question of whether to use a balance transfer credit card or a personal loan to consolidate high-interest credit card debt comes down to preference and ability to qualify. If you can pay down your debt aggressively, using a card with a 0% intro APR period is likely to save you the most money. But if you need more time and more money than a balance transfer card offers, as well as the predictability of a fixed payment over a fixed period of time, then a personal loan may be best.
In either case, before you start consolidating debt, make a realistic plan. Understand what caused you to get into debt in the first place so you can avoid it causing more problems.
“If the debt resulted from consumer overspending, make sure to close all paid-off accounts after the transfer to eliminate the likelihood of running those card balances back up in the future,” said Christensen. Or, if you’d like to keep the cards open to protect your credit score’s length of credit history, tuck them away out of sight and only use them for a small, recurring charge that you can easily afford to pay off at the end of the month.
The information related to the The Amex EveryDay® Credit Card from American Express and the Chase Slate® have been independently collected by CompareCards and have not been reviewed or provided by the issuer of this card prior to publication. Terms apply to American Express credit card offers. See americanexpress.com for more information.