How to use a personal loan to pay off credit card debt

As the cost of living continues to increase, you may be turning to means other than your income to get by. In the first quarter of 2024, credit card debt grew to $1.115 trillion, according to the Federal Reserve, while delinquency rates were also on the rise. If you're relying on credit cards to pay the bills, you're not alone.

However, if your payments are becoming unmanageable, you may be able to turn to a personal loan for help. It might sound odd to trade one form of debt for another, but using a loan to refinance credit card debt could save you hundreds or thousands of dollars in interest and improve your credit score.

How credit card refinancing works

When you refinance credit card debt, your balances are paid off with a new debt, ideally with a lower APR and a lower monthly payment.

You can use different types of debt to pay off your credit cards, including a home equity loan, a balance transfer credit card, and a personal loan for debt consolidation. In all scenarios, you would apply for the new debt (or use a 0% APR balance transfer offer on an existing card). Once approved, you'd pay off your credit cards with the money from the loan. Then, you'd make monthly payments on the new loan until it's paid off.

In addition to reducing monthly payments and interest rate, and/or speeding debt payoff, refinancing credit card debt with a personal loan or home equity loan can quickly boost your credit score. This is because with your cards paid off, your credit utilization (a factor in the "amounts owed" portion of your credit score) could drop significantly - and credit utilization contributes up to 30% of your score.

Credit card consolidation calculator

Pros

Save on interest

For borrowers with good-to-excellent credit (a FICO score between 670 and 739 or greater than or equal to 800, respectively), personal loans tend to have lower interest rates than credit cards. According to Federal Reserve data credit cards charge an average 21.51% interest rate, while a 24-month personal loan has an average rate of 11.92%. Plus, some personal loans can be funded as soon as the same day you apply.

Additionally some lenders will give you a rate discount, such as 0.25 percentage points, if you ask them to send the money directly to your creditors.

Improve your credit score

Thirty percent of your FICO credit score is calculated by determining how much you owe, which includes how much of your available credit you're using on credit cards

(credit utilization). If you can reduce your credit utilization to below at least 30%, it can significantly improve your score. But the lower the better.

But credit mix is also taken into account, and makes up 10% of your FICO score. Adding a personal loan to the mix could be a good thing in the eyes of credit-scoring companies like FICO, especially if you don't have any other installment loans. However, it doesn't mean that opening a lot of new credit lines will be good for your credit score - that's likely to have the opposite effect.

Simplify and lock in payments

If you're carrying multiple credit card balances, refinancing them with a personal loan could reduce the number of payments you make per month to one. Additionally, most credit cards have variable interest rates, meaning they could increase.

Personal loans, however, generally have fixed interest rates, meaning the rate won't change over the life of your loan. These factors create a fixed monthly payment that you can easily budget for.

Cons

Interest rates aren't always lower

While personal loans have lower interest rates than credit cards on average, that's not true in every case. If you have poor credit (a FICO score below 580), you may be looking at rates as high as 36%. However, there are lenders who tailor to those with bad credit, so It's wise to prequalify with various lenders so you can determine whether getting a personal loan would save you money.

Prequalification involves a soft credit check which doesn't impact your score, but is not an offer of credit, and the rates may vary once you actually apply. Additionally, a hard credit check will be conducted which can ding your score temporarily.

Personal loans often come with fees

While you might be able to qualify for a personal loan with no fee, many lenders attach an origination fee to their loans up to 12%. This amount is usually taken out of your principal borrowing amount.

For example, let's say you have $10,000 in credit card debt and you take out a $10,000 personal loan with a 5% origination fee. When the lender disburses the funds, you'll receive $9,500 instead of $10,000.

Personal loans can lead to more debt

If you have a significant amount of credit card debt, you'll want to make sure that you don't get yourself back into this situation again. If you use a personal loan to pay off your credit card but don't change your credit card usage, you could end up with two piles of debt instead of one.

Credit card refinancing lenders

Alternatives to pay off credit card debt

Balance transfer cards

If you can qualify for a credit card with a 0% promotional interest rate for balance transfers, you may be able to transfer your existing high-interest credit card balance to that card and save money. There are some cards, like Citi Simplicity, that offer a 21 month 0% APR period.

However, balance transfers are most beneficial when you can pay off the balance before the 0% introductory rate period ends. Additionally, most cards charge a balance transfer fee (around 3% to 5%), so factor that surcharge into the cost or savings of this strategy.

Debt snowball, avalanche methods

If you have balances on multiple credit cards, you may be able to utilize the debt snowball or avalanche method.

Debt snowball

The debt snowball method is a debt payoff strategy that involves putting any extra money you have toward your lowest outstanding balance. For example, if you have one credit card with a $1,000 balance and one credit card with a $2,000 balance, make the minimum payment on the $2,000 balance and pump all the money you can toward the $1,000 balance. Once you pay off the $1,000 balance, you can now start putting that extra money toward the other card.

Debt avalanche

In the debt avalanche method, you put any extra money you have toward the debt with the highest interest rate. Let's say you still have the credit card balances from the above example, but the $2,000 balance has a 34.99% APR, while the $1,000 balance has a 19.00% APR. Using the avalanche method, you would make the minimum payment on the $1,000 balance and put as much as possible toward the $2,000 balance with the higher interest rate.

The avalanche method will save you money on interest, but the snowball strategy can help you feel motivated and gain momentum in your quest to pay off credit card debt. Decide which resonates with you and motivates you the most toward a faster payoff.

Up your earning power

It might sound obvious, but making more money is one of the best ways to pay off your credit card debt faster. While finding a higher-paying job is ideal, earning more money with a second job might be an easier-to-achieve solution in the short term.

Consider freelance work, part-time work, or a job in the gig economy. Whichever you choose, factor taxes, maintenance or supply costs, and other expenses into your budget, as many second jobs can carry these kinds of costs.

Making an extra $100 every week or every month can help you pay off your credit card debt that much faster. If you decide to go this route, make sure you're taking all the money from that side gig, subtracting taxes and expenses (if it's not done automatically), and making extra payments toward your debt.

Use a home equity loan

If you own a home with equity, you may be able to tap as much as 80% of that equity to pay off credit cards. Like using a personal loan, you would use the proceeds to pay off your credit cards, then make payments on the home equity loan instead. Home equity loans are secured installment loans, so your home acts as collateral. If you fail to make payments and default, your house could be foreclosed.

Secured loans generally come with lower rates and longer repayment terms, typically up to 30 years. However, home equity loans can also take a month or more to get approved, and can have closing costs over 2%.

Should you refinance credit cards?

If you can qualify for a loan with a lower interest rate than your credit card and avoid fees - and you're confident you can resist the temptation to run up another big credit card bill - refinancing can be a smart call. A good credit score is a big factor in getting low interest rates and fees, so if your FICO score is 670 or higher, you are likely in a better position to consolidate your credit card debt with a personal loan or other loan.

How to get a personal loan

1. Check your credit

This isn't a part of the actual application process, but it's one of the first things lenders will do once they get your application. Credit scores are a large part of whether you qualify for a loan, what interest rate you're offered, and what fees you're charged.

You can get free credit reports from the three credit bureaus at AnnualCreditReport.com. If you see any errors weighing down your score, report them to the appropriate credit bureau (Experian, Equifax, or TransUnion).

2. Do your research

Before you make any moves, compare lenders carefully. You can usually prequalify for a personal loan with a soft credit check that won't impact your credit score. Do this with several companies and compare the interest rates, origination fees, loan terms, and other information before you make a choice. Keep in mind that prequalification is not an offer of credit, and your final rate could be higher.

3. Select the best option

When you're choosing the best option, interest rates and fees aren't the only thing to consider. The loan term is also important - a longer term generally means lower payments but a higher amount of total interest paid, while a shorter loan term means the reverse. Make sure that you fully understand any extra costs that might impact you, such as late fees or prepayment fees. And do the math to ensure you can cover the monthly payments without struggling.

4. Apply

The formal application will likely require proof of identity, proof of address, proof of employment and income, and your Social Security number. Lenders may also run a hard credit check which can temporarily ding your credit score.

5. Pay off your credit card

Once you're approved and sign the final paperwork, your loan funds will be disbursed, likely via direct deposit into your bank account. Some companies may offer to pay off your debt directly to your creditors, so check with your lender. If you receive the funds, you'll then pay off your credit card or cards and start making monthly payments to your personal loan company. Make sure to add the new due date and payment amount to your monthly budget.

Learn More: How to Get a Personal Loan

FAQ

Where can I get a personal loan?

You can find personal loans through banks, credit unions, and online lenders. Most lenders let you prequalify so you can get an idea of the type of rate you may receive. Prequalification is not an offer of credit and your rate may change once you apply. Additionally, if you have poor credit, look for lenders who cater to those with FICO scores below 580. For example, OneMain Financial doesn't have a minimum credit score requirement.

How do I consolidate my credit cards?

You can use another payment method, like a debt consolidation personal loan, home equity loan, or credit card balance transfer, to consolidate your credit card balances into one account with one payment. Look for a loan with a lower interest rate than what you currently owe on your cards, and make a point to not run up the balances on your cards once you pay them off with the new loan.