How to consolidate debt with personal loans

With inflation at record levels, making ends meet has become increasingly challenging for Americans. As of June 2022, consumer prices are up 9.1% year over year, which is the largest increase in four decades, according to the Bureau of Labor Statistics.

Given this reality, it’s no surprise that debt among Americans is also surging. The Federal Reserve Bank of New York recently reported that household debt for the second quarter of 2022 increased by $312 billion to a total of $16.5 trillion. For perspective, that’s $2 trillion higher than the end of 2019—just before the COVID-19 pandemic emerged and brought with it a whole host of economic challenges. 

If you’re among those looking to wrangle your debt to make it more manageable, using a personal loan to consolidate payments can help you manage your finances more effectively and potentially lower the interest you’re paying on the debt in the process. 

What is a debt consolidation loan? 

A debt consolidation loan is a type of personal loan that allows you to convert multiple debts into a single payment. The primary purpose of these types of loans is simplifying or streamlining debt management. But it’s also possible to lower the overall interest you’re paying on debts by opening a consolidation loan.

“Any loan taken out for the purpose of paying off other debt is a debt consolidation loan, although some lenders offer loans specifically labeled as debt consolidation loans,” says Michael Sullivan, personal financial consultant for the nonprofit financial education organization, Take Charge America. “The usual goal is to save money and lower payments by getting a lower interest rate or a longer payoff period, or both.”

Many types of debt can typically be included in a personal loan used for debt consolidation. Examples include credit card debt, medical debt, payday loans, and in some cases student loans. Some lenders however, may also specify what the funds cannot be used for.

“Secured loans, like home and auto, cannot be consolidated,” says debt relief attorney Leslie Tayne, founder of Tayne Law Group. “Lenders often include a student loan disclosure, saying the consolidation loan cannot be used for education-related expenses or to refinance your student loans.” 

Banks, credit unions, and online lenders all offer personal loans that can be used for debt consolidation or loans that are specifically designated for debt consolidation loans. 

How does the debt consolidation process work? 

There are several important steps to open a debt consolidation loan. This includes shopping around and reviewing multiple offers, getting prequalified for loans, and, when you’re ready, submitting a formal application to the lender you’ve selected.

Shop around and get prequalified for multiple loans

It’s a good idea to get prequalified with a handful of different lenders. This step allows you to compare loan offers carefully, reviewing such things as interest rate, fees, and loan terms.

“Some websites allow individuals to check if they prequalify for loans across multiple lenders, and this lets you compare APRs across multiple lenders with a soft credit pull, so it won’t affect your credit score,” says Tayne. “Read through the loan disclosures and fine print, too, as they’ll often specify what the loan cannot be used for.” 

Obtaining prequalification from multiple lenders typically does not impact your credit score. At this preliminary stage, lenders often do what’s considered a soft credit pull, as Tayne mentioned. This does not impact your score because it does not represent an actual loan application. But even in cases when lenders conduct a full credit score check, which is referred to as a hard check, it’s not likely to have a big impact on your score. Multiple inquiries for the same type of financial product, such as a loan or mortgage, are considered as a single inquiry for scoring purposes—as long as they take place within 45 days of one another.

While you’re shopping around, you may also want to create a budget, if you don’t already have one, Tayne points out. This helps to identify the ideal monthly loan payment to fit your needs. “With this information, you can pick a loan term that isn’t too high or low. By doing this, you can potentially shorten the loan term and pay less in interest charges,” Tayne explains.

Submit a formal application

Once you’ve decided on a specific lender, the next step is to formally submit an application. This typically requires providing slightly more financial information and documentation then when you sought preapproval.

Full application requirements often include proof of employment, gross monthly income, monthly mortgage or rent payment amount, and recent W-2s or tax returns. In some cases, depending on the lender and how the loan proceeds are dispersed, you may also be required to provide account information for the debts to be paid off. Lenders will also review your credit profile and credit score.

Receive loan proceeds and begin making payments to new lender

Once your loan is approved, depending on the terms, you’ll either receive the funds directly and then pay off your other debt on your own or the lender will repay the other debts for you. After that, it’s time to begin making payments. Consolidation loan terms typically range anywhere from one to 10 years.

What to look for in a debt consolidation loan

Before deciding on a lender or a specific loan, it’s important to review all loan terms, conditions, and fees carefully, as well as doing your research on the lender itself.

Loan terms

Most personal and debt consolidation loans are fixed-rate installment loans, meaning the interest rate remains the same for the entire loan term. But it’s also not unheard of for some lenders to include what’s known as “teaser rates” that only last for a short promotional or introductory period. Once the initial rate period elapses, the loan terms may stipulate a much steeper rate. Be sure to review loan terms carefully with an eye toward these sorts of clauses.

“Borrowers should select lenders carefully. Many lenders exist only to serve distressed consumers. These lenders are likely to inflate costs and rates and have very aggressive collection practices,” says Sullivan.


Loans typically come with a variety of fees. This can include origination fees, late fees, and even early termination fees. Ideally, you’ll want to select a loan with minimal fees.

“Many lenders include origination fees for a balance transfer, which can add up to hundreds of dollars or more if you have a high balance,” says Tayne. “If you think you’ll be able to pay off your balance earlier than the loan’s term, watch out for prepayment penalties as well. A prepayment penalty is a fee that you’re charged when making early payments because the lender wants to maximize the interest charged to the borrower.”

Consumer reviews and BBB ratings

Researching the lender itself is another important step when considering a debt consolidation loan. You’ll want to be sure to select a lender that has a good reputation and has received positive reviews from previous borrowers.

“Borrowers should check on the lender’s license in the borrower’s state and carefully review Better Business Bureau ratings,” suggests Sullivan. “Most banks and credit unions are subject to governmental regulations and are safe to deal with.”

Benefits of consolidating debt with a personal loan 

When used wisely, opening a personal loan to consolidate debt can have various financial benefits. 

Potentially reducing your interest rate
One of the most important benefits of consolidating your debt is reducing the interest rate you’re currently paying, particularly if you have high-interest credit cards.

“A debt consolidation loan can potentially reduce your interest rate. This is very common if you took out the original form of debt when you had poor credit or a thin credit file,” says Tayne. “Many people are carrying debt with a 30% or more APR and can lower their interest rate with a consolidation loan.”

Sullivan stresses this point even more. “Since the goal is often to save money—and that should always be the goal—the first consideration should be interest rates,” Sullivan adds.

Boosting your credit score

Consolidating your debt can also improve your credit score, especially when you’re paying off credit card debt with a personal loan. Doing so will lower your credit card utilization rate—which is one of the primary factors contributing to your overall credit score. Credit utilization ratio is a measure of the total amount of your total available credit that you’re currently using. To determine the exact percentage of your credit utilization ratio you divide the total amount of credit you’re using by the total amount of revolving credit that you have available.

“The more of your credit limits you use, the higher your utilization, which can lower your score,” explains Tayne. “When these balances are transferred to a loan, it no longer counts towards this factor, as a debt consolidation loan isn’t a revolving form of debt.”

Streamlining monthly debt payments

For those who have trouble paying a multitude of bills on time, or who are simply overwhelmed by having too many different payments, streamlining debt into one payment can be an important step in debt management. Consolidation loans can simplify repayment by creating just one monthly due date, payment amount and interest rate.

“Some consumers find that streamlining payments makes it easier to manage payments and easier to budget,” says Sullivan. “Consumers who pay all accounts individually and experience difficulty are missing an obvious organizational problem.”

Securing a specific repayment timeline

When your debt is growing beyond control, it’s important to have a plan to manage and repay your bills. By rolling debt into a personal loan that comes with a fixed repayment term, you’re establishing a specific repayment timeline.

“Everyone needs to have a financial plan to address debt,” says Sullivan. “The problem with revolving credit like credit cards is that they are flexible and consumers cannot anticipate an actual date when they will be paid off. A loan with 36 or 48 payments has an expiration and the consumer can plan for new savings goals after the payoff.”

Drawbacks consolidating debt with a personal loan 

While there are many upsides associated with pursuing debt consolidation, if you’re not careful when selecting a loan, there could also be drawbacks. And in some cases, these can actually outweigh the financial gains you’re hoping to achieve.

You may be charged fees

Loans come with various fees. Origination fees are among the most common, but there are also prepayment penalties, late payment fees, insufficient funds fees, and, in some cases, check processing fees. Be sure you read the fine print and thoroughly understand all of the costs associated with the loan you’re considering.

You might extend the repayment timeline of your debt

When opening a personal loan to consolidate debt, your loan term may be as long as 10 years. In some cases, the loan term may actually end up being longer than the term of the debt obligations you consolidated.

“Debt consolidation loans can lower monthly payments, but in doing so, may increase the time it takes to pay down the debt. With extended payment terms, it’s important to look at total interest paid over the life of the loan,” says Tayne.

You may end up with a higher interest rate

The goal of debt consolidation is to lower the interest you’re paying, but there’s no guarantee you’ll get a lower rate. “The purpose of the loan is to pay less in interest, so if you have poor credit, you might end up with a loan that has unfavorable terms,” explains Tayne.

The takeaway

If you have multiple debts on high-interest credit cards or other forms of borrowing, a personal loan may be a helpful approach to regain control of your finances and simplify monthly bill payments. 

When shopping for a consolidation loan, however, it’s important to review all loan terms and conditions carefully, including the interest rate and fees, to ensure you’re actually saving money with the loan you select.  

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