People talk all day long about their workouts, favorite apps and their love lives, but bring up the subject of money, especially credit card debt, and suddenly everyone clams up.
Just because we don’t talk about debt doesn’t mean it’s not an issue. After all, the average American household carrying a credit card balance has over $5,500 in credit card debt in 2021. But how do you pay off credit card debt? One method to consider: taking out a personal loan.
How Using a Personal Loan to Pay Off Credit Card Debt Works
Personal loans are a type of unsecured loan that a borrower can take out for almost any purpose, including paying off credit card debt. Loan amounts can vary by lender and will be paid to the borrower in one lump sum after the loan is approved. The borrower then pays back the loan — with interest — in monthly installments that are set by the loan terms.
Many unsecured personal loans come with a fixed interest rate that won’t fluctuate or change over the life of the loan. An applicant’s interest rate will be determined by a set of factors, including their financial history, credit score, income, and other debt, among other factors. Typically, the higher an applicant’s credit score the better their interest rate will be, as they may be seen as a less risky borrower. Lenders may offer individuals with low credit scores a higher interest rate, presuming they will be more likely to default on their loans.
When using a personal loan to pay off credit card debt, the loan proceeds are used to pay off the cards’ outstanding balances, consolidating the debts into one loan. Ideally, the new loan will have a much lower interest rate than the credit cards. Consider that the average credit card interest rate is about 16%, while the average personal loan rate is about 9.5%, according to the Federal Reserve. By consolidating credit card debt into a personal loan, a borrower’s monthly payments can be more manageable and cost considerably less interest.
Finally, using an unsecured personal loan to pay off credit cards also has the benefit of ending the cycle of credit card debt, without resorting to a balance transfer card. Balance transfer credit cards are just credit cards that usually have an introductory offer of a low rate (or a 0% rate) on balance transfers to the new card.
This might seem like an appealing offer. But if the balance isn’t paid off before the promotional offer is up, the cardholder could end up paying an even higher interest rate than they started with. Balance transfer cards often charge a balance transfer fee, which could ultimately increase the total debt.
Taking Out a Loan to Pay Off Credit Card: Pros and Cons
While on the surface it may seem like taking out a personal loan to pay off credit card debt could be the best solution, there are some potential drawbacks to consider as well. Here’s a look at some of the pros and cons.
- Lower interest rate: Personal loans may charge a lower interest rate than high-interest credit cards. Consider the average interest rate for personal loans is under 10%, while credit cards charge over 16% on average.
- Streamlining payments: When you consolidate credit card debt under a personal loan, there is only one loan payment to keep track of each month, making it less likely a payment will be missed because a bill slips through the cracks.
- Pay off debt sooner: A lower interest rate means there could be more money to direct to paying down existing debt, potentially allowing the debtor to get out from under it much sooner.
- Credit score boost: It’s possible that taking out a personal loan could boost the borrower’s credit score by increasing their credit mix and lowering their credit utilization by helping them pay down debt.
- Lower rates aren’t guaranteed: If you have poor credit, you may not qualify for a personal loan with a lower rate than you’re already paying. In fact, it’s possible lenders would offer you a loan with a higher rate than what you’re paying now.
- Loan fees: Lenders may charge any number of fees, such as loan origination fees, when a person takes out a loan. Be mindful of the impact these fees can have. It’s possible they will be costly enough that it doesn’t make sense to take out a new loan.
- More debt: Taking out a personal loan to pay off existing debt is more likely to be successful when the borrower is careful not to run up a new balance on their credit cards. If they do, they’ll potentially be saddled with more debt than they had to begin with.
- Credit score dip: If closing the now-paid-off credit cards after taking out a personal loan is a temptation, perhaps reconsider doing so. Closing credit accounts that have been on a person’s credit report for some time could shorten their length of credit history and possibly negatively affect their credit score.
So You’ve Decided to Apply for a Personal Loan to Pay Off a Credit Card. Now What?
The steps for paying off a credit card with an unsecured personal loan aren’t particularly complicated, but having a plan in place is important.
1. Getting the Whole Picture
It can be scary, but getting the hard numbers — how much debt is owed overall, how much is owed on each specific card, and what the respective interest rates are — can give a sense of what personal loan amount might be helpful to pay off credit cards.
2. Searching Personal Loan Options
These days, most — or all— personal loan research can be done online. A personal loan with an interest rate lower than the credit card’s current rate is an important thing to look for. Origination fees, which can add to a person’s overall debt and possibly throw off their payoff plan, is another thing to watch out for.
3. Paying Off the Debt
Once an applicant has chosen, applied, and qualified for a personal loan, they’ll likely want to immediately take that money and pay off their credit card debt in full after they receive the loan proceeds.
The process of receiving a personal loan may differ. Some lenders will pay off the borrower’s credit card companies directly, while others will send the borrower a check that they’ll then have to deposit and use to pay off the credit cards themself.
4. Hiding Those Credit Cards
One potential risk of using a personal loan to pay off credit cards is that it can make it easier to accumulate more debt. The purpose of using a personal loan to pay off credit card debt is to keep from repeating the cycle.
Consider taking steps like hiding credit cards in a drawer and trying to use them as little as possible.
5. Paying Off Your Personal Loan
A benefit of using a personal loan to consolidate credit card debt is that there is only one monthly payment to worry about instead of several. Not missing any of those loan payments is important — setting up a monthly reminder or alert can be helpful.
6. Applying for a Personal Loan to Pay Off Credit Cards
With online applications, the process for getting a personal loan can be quick and easy, and some lenders may provide live customer support. Applying online typically doesn’t take more than a few minutes. And there are more options than ever with innovative fintech startups doing what they can to make the process of refinancing your credit card debt quick and easy.
Budgeting Debt Payoff
Before embarking on paying off credit card debt, a good first step is pulling together a budget, which can help a person better manage their spending. And they might even find money in their budget to put towards that outstanding debt. If a person has more than one type of debt (for instance, a mortgage, student loan and maybe a car loan), they may want to think strategically about how to tackle them.
Some finance gurus recommend taking on the debt with the highest interest rate first, a strategy known as the avalanche method. As those high-interest-rate debts are paid off, there is typically more money in the budget to pay down other debts.
Another approach, known as the snowball method, is to pay off the debts with the smallest balances first. This method gives a psychological boost, with small wins early, and over time can allow room in the budget to make larger payments on other outstanding debts. Of course, for either of these strategies, keeping current on payments for all debts is essential.
High-interest credit card debt can be a huge financial burden. If a person is only able to make minimum payments on their credit cards, their debt will only increase, and they’ll find themselves in a vicious debt cycle. Personal loans are one potential way to end that cycle, as a tool to pay off debt in one fell swoop and hopefully replace it with a single, more manageable loan.
Remember, however, that personal loans aren’t for everyone. While they typically have lower interest rates than credit cards, they are still debt and should be considered carefully and used responsibly.
SoFi Loan Products
SoFi loans are originated by SoFi Lending Corp. or an affiliate (dba SoFi), a lender licensed by the Department of Financial Protection and Innovation under the California Financing Law, license # 6054612; NMLS # 1121636. For additional product-specific legal and licensing information , see SoFi.com/legal.
Checking Your Rates: To check the rates and terms you may qualify for, SoFi conducts a soft credit pull that will not affect your credit score. A hard credit pull, which may impact your credit score, is required if you apply for a SoFi product after being pre-qualified.
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