What is the Best Way to Consolidate Debt?

There are four ways that people usually choose to consolidate debt: balance transfers, debt consolidation loans, a second mortgage loan, and home mortgage refinance. Each way has certain advantages and disadvantages to it that make it appealing for particular individuals. None of these options are best for everyone, so those looking to consolidate debt should decide which advantages are most important to their situation.

A balance transfer involves moving balances on high interest credit cards, or other debts, to a new credit card. New credit cards generally offer a grace period for interest, or offer 0% interest on transfers. Someone with a group of small high interest balance credit cards can find it easier to pay down the debt with zero interest. Since these rates are often only introductory, some choose to transfer balances to a new card once again when the rates begin to rise.

Some banks offer personal loans for the purpose of debt consolidation. As with the balance transfer option, this reduces the interest rate of the balance, and simplifies payments. The main difference is that the interest rate usually will not change. Consumers generally need to have stellar credit scores for this option, however.

The next two methods to consolidate debt both require that a homeowner use his or her house as collateral. The new mortgages work against any equity that may have built up in the home. For example, if a homeowner has a mortgage of $100,000 US Dollars (USD), and his home is appraised for $150,000 USD, he has $50,000 USD in equity that he can borrow against. Some companies require the loan to be above a percentage of value, such as 95%. In this example, that would be $142,500 USD, leaving our homeowner with $42,500 he could borrow against.

If one chooses to open a new loan against that $42,500 USD, it is called a second mortgage. Many of these loans work like lines of credit. Some even have checkbooks that can be used to pay off other debts, or pay unexpected expenses as they come along.

If one chooses instead to refinance an old mortgage, the mortgage company raises the amount of the mortgage loan. New closing costs are usually assessed and rolled into the mortgage as well. The homeowner is given cash equal to the difference in value between the old mortgage and new mortgage, minus closing costs. The homeowner uses that cash to pay off, and thereby consolidate debt into the mortgage payment. Credit card or small loan debt, which was once unsecured, becomes secured by the home, and spread out over 30 years.

Be aware that none of these methods to consolidate debt erase it, but rather offer alternative payments that can make it easier to pay on the total balance. Balance transfers and debt consolidation loans work well for someone concerned with slightly lower payments and the ability to pay off the debt quickly. Mortgage loans are not recommended for someone looking to sell their house in the near future, but can work well for someone who needs to lower their monthly debt burden. They offer significantly lower payments, but steal equity from the home, and make the payments last much longer.