Debt Consolidation

Question

I currently have a loan that I am paying on that has a 31k balance, with an APR of 9.24.

I also have a credit card with a 6300 balance, and the APR is ~17.9%.

I have an offer for a consolidation loan to pay off the card and the loan (total of ~ 37.5k), but it has an APR of 11.59% for 4 years.

My major motivating factor for considering the consolidation loan is to have 1 payment, and I believe my credit score would improve if my credit card balance goes to zero.

Can anyone point out anything to consider as far as whether or not it is worth taking the loan? I get that transferring 31k of debt from an 9.24 APR to a loan with a higher rate isn't ideal, but I'm wondering if rolling in the credit card debt changes the equation?

Any advice would be appreciated. Making the monthly payment on the loan is not an issue. Thanks

Answer 1

You'll be paying more interest for a longer time if you include the loan in the consolidation. My calculation suggests you'll pay $2,485.29 more in interest on the loan if you consolidate it to the higher rate for 4 years instead of paying it off at 9.24% in 3.5 years.

If we treat the credit card as a 4 year loan with a $6,300 balance you'd save $974.59 by consolidating it down from 17.9% to 11.59%.

Consolidating both would cost you $1,520 in extra interest vs paying off the loan over the next 3.5 years and the credit card over the next 4 years. Could be even higher if they have any fees associated with the consolidation loan.

The better option is to do all you can to speed up repayment of the credit card debt, and once that is done put what you were paying toward the credit card as extra payments to your existing loan. Pay the minimum due on the loan until you've wiped out the credit card balance.

My calculations were using a simple loan amortization schedule in Excel, credit cards aren't amortized, but if you treated it like a 4-year loan you'd be repaying ~$184.73/month to pay it off in 4 years. Anything extra you throw at it can save you a good bit of interest.

Your credit score may improve a bit with consolidation, but not enough to warrant paying $1,520 in extra interest, it will also improve over time without consolidation.

Answer 2

I agree with Hart CO's excellent answer; you are much better off financially in your current situation than if you consolidate as stated. If they are willing to give you a loan for $37.5K at 11.59% for 4 years, then I can't think of a good reason they wouldn't be willing to give you the same terms for just $6.3K instead. I would ask them for the smaller amount and leave your large loan intact. If they say no, please share the reason they provide.

Update: Based on the new information in your comment, it looks like you can get the loan for $6,300, but at a higher rate of 12.89%. Or you can take out the loan for $10,000 and get the 11.59%. (Presumably because the bank wants to make a minimum profit to originate the loan for you.) Given this, it does make sense to take the smaller loan (unless there is a high origination fee or early payoff fee). Now let's calculate which is better: 6300 at 12.89% or 10K at 11.59%:

1. Interest paid on $6300 at 12.89% for 4 years: $1,796.13
2. Interest paid on $10000 at 11.59% for 4 years: $2543.83. But if you get $10k, you'll be able to pay off $3700 from your larger loan, so you'll save the interest on $3700 at 9.24% for 3.5 years: $644.59. Total adjusted cost of the $10k loan: $1899.24.

Update Conclusion: the $6300 loan at 12.89% is slightly better (by about $100) than $10K at 11.59%. I'd recommend refinancing just the $6300 on the CC for 12.89%. (Note this is still contingent on low origination fees and no early payoff fees.)

Regardless of what you do, try to throw as much as you can at the higher interest rate loan every month until it's gone. The faster you can pay off the CC, the more money you save, and yes, it should also increase your credit score a little bit due to the lower utilization percentage.

As a side note, I want to comment on this:

My major motivating factor for considering the consolidation loan is to have 1 payment...

I definitely get that, but right now you have 2 payments per month instead of 1. It must be worth a few minutes per month to save $1500. Or you can automate the regular payment amounts and then you don't have to lift a finger, except when you login to make additional payments on the CC, but those payments are enjoyable!