Consolidating your debts could give you a clearer picture of what you owe and potentially save you money, but there’ll still be things to look out for.

If all those small debts you once had, have somehow multiplied and grown into bigger debts, rolling them into one could help reduce what you’re paying in fees and interest.

If you’ve heard about debt consolidation and are wondering whether it’s the right option for you, we look at some of the tips and traps, so you’ve got a bit of info up your sleeve before you decide.

What is debt consolidation?

Debt consolidation is where you take your existing debts (credit card, personal loan, car loan, or all of the above) and consolidate them into a single loan, preferably with a lower interest rate.

Some people choose to use their home loan to consolidate their debt because it often offers a lower interest rate, but it does mean risking your home if you can’t keep up with your repayments.

Other options include rolling your debts into a new or existing personal loan, or credit card balance transfer.

Different options will have various pros and cons, depending on your circumstances, which is why it’s really important to do your research first.

What are the potential benefits?

  • If you can consolidate into a loan with a reduced interest rate and lower fees, you could save a significant amount of money, depending on what you owe
  • A consolidated loan can be easier to manage as you’ll potentially only need to make one monthly repayment rather than having to juggle several
  • As you’ll only receive statements from one lender, you can reduce the amount of paperwork involved, which could make budgeting each month a lot easier.

What should I be aware of?

  • When looking at debt consolidation solutions, make sure your provider is licenced by ASIC and that interest rates, fees and charges are lower than what you’re paying currently
  • Providers may knock you back if there are black marks on your credit report, which lets lenders know whether you’ve been paying your bills on time
  • If you extend the term of your loan and don’t focus on paying off the principal, be aware that you could end up paying more in interest over time
  • Look into whether there are any application fees or penalties for paying off any existing debts early. After all, you want to ensure the potential savings outweigh any costs.
  • Interest rates can go up and down and this could affect your ability to make repayments.

How do I do it?

1. Get up to speed with your current debts

  • How much do you owe on each debt and what do they all add up to?
  • How much interest are you paying on each debt?
  • How long have you got to pay your debts off?
  • What extra fees and charges are you paying because you have multiple debts?

2. Think about the best way to consolidate

Depending on your situation, one approach could be to roll all your existing debts and any savings you might have into your home loan, if you have one. This could potentially help reduce your short-term debt burden, because:

  • most credit cards charge higher interest rates
  • most personal loans charge higher interest rates
  • any money sitting in transaction or savings accounts is likely to be earning lower interest rates than those being charged on your home loan.

If you’re leaning toward consolidating your debt into your home loan, do keep in mind:

  • your home loan balance will increase as you’ll be adding your existing debt amounts to it
  • any equity you may have gained in your property will therefore decrease
  • you may also need to pay lender’s mortgage insurance, depending on how much you increase your home loan by.

3. Focus on clearing debt

  • Debt consolidation will only be effective if you’re disciplined about making repayments 
  • While you’re paying off the consolidated debt, try to avoid taking on any new debt
  • Once the debt is paid off, try to maintain good debt management habits.

Case study – using a home loan

Sheri and Samantha, who are in their mid-30s, bought a $750,000 two-bedroom apartment in Sydney three years ago.

They were able to put forward a 20% deposit after several years of saving and some help from an inheritance.

Their financial situation today:

  • They have an outstanding home loan of $550,000 (25-year term, 3% pa interest rate)
  • They have a combined credit card debt of $12,000 (interest rate 19.55% pa) 
  • They have a personal loan of $15,000 (five-year term, 14.3% pa interest rate)
  • They’re making repayments of $3,319 per month to cover these debts
  • They don’t have any black marks on their credit report.

Strategy

Sheri and Samantha speak to their bank about how they might consolidate their loans.

They agree on increasing the balance of their home loan to $577,000, so they can pay off their higher interest rate credit cards and personal loan.

Consolidating these into their lower rate home loan means they can reduce their total monthly loan repayments by $583.

If they put these savings into their home loan by keeping total monthly repayments at $3,319, they’ll reduce their home loan term by eight years and 11 months. This will save them $62,858 in interest.

Before consolidation

  Total debt
Interest rate Payments per month
 Home loan $550,000
 
3% pa
$2,608
Credit card $12,000 19.55% pa $360
Personal loan $15,000 14.30% pa $351.36
Total $577,000   $3,319

After consolidation

  Total debt  Interest rate Payments per month
 Home loan $577,000 3% pa $2,736
Credit card $0 $0 $0
Personal loan $0 $0 $0
Total $577,000   $2,736
Savings $583    

Of course, there are factors that could affect this strategy – such as unexpected changes in interest rates, but you can see that Sheri and Samantha’s consolidation strategy could provide a substantial monthly saving – one that could eliminate their debt sooner or free up funds for other investments.

Please note: this case study is based on a typical situation to show the benefits of an effective debt consolidation strategy. There are always things to be aware of, many which we’ve listed above. 

 

Where to go for assistance

Speak to your bank or financial adviser about which type of debt consolidation strategy might suit your needs.

You can also seek free financial counselling by ringing the National Debt Helpline on 1800 007 007. 

Speak to a home loan specialist

Important information

This information is provided by AWM Services Pty Ltd (ABN 15 139 353 496) and is general in nature only. It hasn’t considered your personal goals, financial situation or needs. Before deciding what’s right for you, it’s important to consider your particular circumstances and read the relevant product disclosure statements or terms and conditions available from AMP at amp.com.au or by calling 131 267.

All information on this website is subject to change without notice. Although the information is from sources considered reliable, AMP does not guarantee that it is accurate or complete. You should not rely upon it and should seek professional advice before making any financial decision.

You can read our Financial Services Guide online for information about our services, including the fees and other benefits that AMP companies and their representatives may receive relating to products and services provided to you. You can also ask us for a hard copy. AWM Services is a part of AMP group.

All banking products are issued by AMP Bank Limited ABN 15 081 596 009, AFSL and Australian Credit Licence 234517. For more information go to amp.com.au/banking.