How to use a personal loan to pay off debt

Debt consolidation can save you money and help you pay down your balances faster. Learn how to use a personal loan to pay off debt. (Shutterstock)

Out-of-control debt can strain your budget, leaving you with little money after paying your monthly bills. If you’re managing multiple balances, a personal loan can be a valuable tool to help you pay off your debt.

Consolidating high-interest debts with a personal loan may help you save money on interest and simplify your finances since you’ll only have one payment to keep track of. Understanding how personal loans work can help you decide if using one to consolidate your debt makes sense.

Credible makes it easy to see your prequalified personal loan rates from various lenders, all in one place.

• What is debt consolidation?
• How to use a personal loan to pay off debt
• Benefits of taking out a personal loan for debt consolidation
• Drawbacks of taking out a personal loan for debt consolidation
• Other debt payoff strategies to consider

What is debt consolidation?

Debt consolidation combines several debts into a single personal loan or credit card. Depending on your credit, you may pay less interest and lower your monthly payments while making your debt easier to manage.

Generally, a debt consolidation loan is an installment loan with a fixed interest rate and monthly payment. Most personal loans are unsecured, so you won’t have to provide collateral. Your eligibility will depend on your credit history, income, and debt-to-income ratio, among other factors.

How to use a personal loan to pay off debt

To save money, you should only consider taking out a personal loan if the interest rate is lower than the rates on your existing debts. 

You can take out a personal loan through a bank, credit union, or online lender. When you apply with an online lender, they streamline the loan process so you can receive funds quickly, often the same or next business day. Loan amounts vary by lender, but typically range from $1,000 to $100,000.

When you apply for a personal loan, the lender may ask you to specify what you intend to do with the loan funds. Most lenders allow you to use a personal loan to consolidate debt, but it’s essential you understand the loan terms, as some lenders may restrict how you can use the money.

If the lender approves your personal loan, funding usually happens in one of two ways if you’re using the loan for debt consolidation:

• Lump-sum payment — You’ll receive a lump sum as a direct deposit into your bank account that you can use as needed. You can then use the funds to pay off all your existing debts.
• Lender pays your creditors — Some lenders send direct payments to your creditors on your behalf.

If you’re paying off the debts yourself, submit the payoff amount, not the minimum due or statement amount. You’ll want to ensure you’re bringing your balance to zero. You’ll then start repaying the new personal loan with one fixed monthly payment.

Visit Credible to compare personal loan rates from various lenders, without affecting your credit.

Benefits of taking out a personal loan for debt consolidation

Here are some benefits of using a personal loan to reduce your debt:

• Potentially save money — With good credit, you may be eligible for a personal loan with a lower interest rate than what you’re paying on your credit card debt. The average interest rate on a 24-month personal loan in May 2022 was 8.73%, according to Federal Reserve data. This is substantially less than the average interest rate of 16.65% for credit cards during the same time frame.
• May pay off debt sooner — Depending on the amount of debt you have, it could take you years or even decades to pay off your card balances. But personal loans have fixed repayment terms with a specific payoff date, so you’ll know exactly when your balance will hit zero.
• Simplify your payments — Managing your debt is much easier when you only have to make one payment rather than trying to keep track of several due dates for all your accounts.

Drawbacks of taking out a personal loan for debt consolidation

As with any credit product, it’s wise to consider its disadvantages before making a decision. Personal loans come with a few drawbacks, including:

• May not receive a lower interest rate — While personal loans generally offer lower interest rates than credit cards, you may not receive a lower interest rate if you have bad credit.
• Come with fees — Check your loan terms for fees that could cut into your savings from a lower interest rate. Extra charges may include fees for loan origination, late payments, and insufficient funds.
• Potential for more debt — Debt consolidation can provide long-term benefits for your finances by paying off multiple credit cards and other debt accounts. But if you rack up debt on those accounts again, you could end up with more than your original debt.

Other debt payoff strategies to consider

If a personal loan isn’t right for you, you can still pay down your loan principal faster — and save on interest charges — by making more than the minimum payments on your accounts. Also, consider utilizing these other debt payoff strategies:

• Debt avalanche method — The debt avalanche strategy focuses on paying off debt accounts with the highest interest rates first. By prioritizing your payments to eliminate high-interest debts first, you could save more in interest.
• Debt snowball method — This strategy involves paying off credit accounts with the lowest balances first to enjoy quick wins that build momentum and motivation.
• 0% APR balance transfer card — Transferring your debt to a balance transfer credit card with an 0% APR introductory period between six and 21 months is an effective way to pay down debt. Without interest charges dragging you down, all your payments during the promotional period will go directly toward paying down your debt, minus any fees. Just keep in mind that if you’re still carrying a balance at the end of the promotional period, you’ll start accruing interest at the card’s regular rate, which can be higher than a personal loan.

Whether it’s through a debt consolidation loan, repayment strategy, or balance transfer credit card, ridding yourself of debt has its benefits. Living without debt may leave you with less stress, more freedom, and the ability to focus more on building savings and wealth.

If you want to apply for a debt consolidation loan, Credible lets you quickly and easily compare personal loan rates to find one that works for your needs.