How to consolidate debt

Debt consolidation is a broad term that covers a lot of different financial products – some better than others.

Generally, when people talk about debt consolidation, they’re referring to taking out credit to pay off all their other debts, so they only have one monthly payment and one creditor to deal with.

There are other forms of debt consolidation, though. Some debt solutions fall into this category as they involve making one monthly payment towards all your debts. Importantly though, debt solutions don’t involve you taking on further borrowing.

Let’s look at the different types of debt consolidation in turn…

These allow you to move existing credit card debt to 0% interest for up to 32 months.

Just be aware the interest rate on a 0% balance transfer credit card can go up sharply once the introductory period ends, and it could be cancelled if you miss even just one payment.

You’ll also have to pay a balance transfer fee - often between 2% and 4% - so factor these costs into your calculations.

You can take out a loan to clear your other debts, so you only have to make one payment each month and only have one creditor to deal with. Debt consolidation loans usually last between one to seven years.

The interest rate on a debt consolidation loan can be lower than some credit cards. But the best rates may not be available to you if you have a poor credit score. And, if the term is longer, you could end up paying more interest even if the rate is lower.

There might also be early repayment charges on the debts you’re consolidating and a set-up fee for the loan. On top of this, if your loan is linked to your home, your property could be repossessed if you can’t pay.

You can either increase your current mortgage or switch to a new one for a higher amount and use the extra money to pay off other debts.

That means you’ll only have to make your monthly mortgage payment rather than shelling out various amounts to different creditors.

Some might be drawn to this option because mortgage interest rates are usually lower than those on credit cards or personal loans - and you could end up paying less each month.

But since mortgages are usually repaid over a long period, often 20 to 30 years, you could end up paying far more interest overall.

You also need to bear in mind you may have to pay early repayment fees on your current mortgage or set-up costs with a new one, and if you fall behind on payments, your home is at risk.

A debt management plan (DMP) is an informal debt solution that gives you longer to pay back non-priority debts.

It’s a form of debt consolidation because you make just one affordable monthly payment to your debt management company, and they divide the money fairly between your creditors.

Crucially, this form of debt consolidation doesn’t involve taking out further credit, and most creditors agree to freeze interest and charges, although this isn’t guaranteed.

Just remember, because you’re making lower monthly payments, it will take you longer to repay your debt and your credit rating may be affected too.

An individual voluntary arrangement (IVA) is a formal debt solution.

Again, this is a type of debt consolidation because you usually make just one affordable monthly payment to your IVA provider for a set period (generally five or six years), and they divide that money fairly between your creditors.

At the end of your IVA, any remaining debt is written off.

During your IVA, as long as you make the agreed payments, creditors aren’t allowed to charge interest or fees.

They’ll also stop chasing you to pay.

Just be aware, there are fees for an IVA and it’ll affect your credit rating.