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My spouse and I have about 40K in credit card debt, in addition to a mortgage payment and student loans. We have been working hard to pay off this debt and have been moving in the right direction. We got approved for a 30K personal loan at a lower interest rate (8%) than our credit cards. I'm wondering if there's any good reason not to do this.

  • We plan on using 100% of the loan to pay off higher-interest credit cards
  • The minimum monthly payment on the loan is lower than the combined minimum payments of our cards.
  • We have budgeted to pay more than the minimum each month
  • The lower interest rate is locked in, providing we don't miss two consecutive payments (we are diligent in paying bills and not too worried about this)
  • We both have stable employment, and if things go well we expect an increase in income (although obviously not counting on this)
  • We have very little emergency savings
  • We do have some family safety nets in a worst-case scenario
  • Our credit is fairly good
  • We no longer use any credit cards except one store card that is paid in full each month. We have fixed our spending habits and our debt is moving in the right direction.

Anything I'm missing or should look out for?

  • 8
    What does the personal loan rate go to if payments are missed? What are your credit card interest rates? – Hart CO Aug 6 at 17:51
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    It increases by 3% if we miss two payments; our credit card interest rates are all higher than 8%, with one as high as 19%. Obviously we'll pay off the highest ones first and just go down the list. – thumbtackthief Aug 6 at 18:55
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    @mootmoot I have cards at 11% and 13%. – Hart CO Aug 7 at 15:45
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    And in either case, if you use your credit cards responsibly, you couldn't care less what the interest is anyway. – March Ho Aug 8 at 0:27
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    @jcaron: The you who can easily find rates around 6% may not include someone with significant debt. I don't know exactly what range OP means by "credit is fairly good" but that doesn't sound like "excellent" or even "very good". – Ben Voigt Aug 10 at 18:15

11 Answers 11

133

Should I take out a personal loan to pay off credit card debt?

Yes. 8% is much lower than 18%, so you'll save money.

Anything I'm missing or should look out for?

You might be missing the reason you're $40K in CC debt. We were $30K in CC debt because we didn't know where our money went.

Knowing that -- and strictly sticking to a budget while deep in debt -- was the key to us getting out. Everything else is just kicking the can down the road.

  • 16
    Short and sweet. 8%, 0%, a 401(k) loan, whatever. You wrapped it up beautifully, the reason. – JTP - Apologise to Monica Aug 6 at 19:43
32

My reading of:

We have been working hard to pay off this debt and have been moving in the right direction.

is that you are currently able to cover more the minimum payments on your cards/loans: you are whittling away at the total debt, but it's a slow process. Taken together with:

  • The minimum monthly payment on the loan is lower than the combined minimum payments of our cards.
  • We have budgeted to pay more than the minimum each month.

I would suggest you continue to pay at least the same total amount per month as you are currently doing – don't use the consolidation as an excuse to "relax" your current hard work in trying to pay off the debt.

Initially, as you will still have around 10k in credit card debt (at presumably > 8%), I would:

  • Pay the minimum required for the new consolidation loan, the mortgage and student loans.
  • Pay whatever remains between that figure and what you are paying currently towards the remaining credit card(s).

Once you've cleared the remaining credit card(s), then continue paying the same amount in total but direct the excess at whatever is now the most expensive credit (I would guess the consolidation loan). (This assumes there are no penalties for overpaying).

And finally: as others have said, if you've not already done so, you need to tackle how you got to this position and make sure you don't go there again.

  • 7
    I'd add that they should take some of the money they are using to pay down debt to start a cash emergency fund, so they don't get back into using CCs for the emergencies that come up. That often leads to getting back in the habit of using CCs. I'm not saying it has to be a lot per paycheck, but anything helps, even $10 a paycheck, but +$100 will get a better fund faster. After they have at least $1000 they can go back to using that for debt. Depending on cost of living, $1500-2000 isn't unreasonable either. – computercarguy Aug 7 at 16:00
20

Anything I'm missing or should look out for?

Yes, what was the reason you got into 40K CC debt in the first place?

If the reason is "you couldn't help it" then a loan won't solve your problem.

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    In fact, a loan might make the problem worse, as now the credit cards are sitting there begging to be used again. – cHao Aug 7 at 10:45
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    As I said in the question, we have been decreasing our debt already. – thumbtackthief Aug 7 at 13:15
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    @cHao That's exactly it. Debt restructuring to be able to borrow more is bad and also not good. – Perdi Estaquel Aug 8 at 1:11
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    This doesn't answer the question and doesn't add anything over RonJohn's answer from 12 hours earlier... – Mars Aug 8 at 6:41
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    @cHao - that's what the scissors are for. – Mazura Aug 9 at 3:30
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There's not a good reason against it. The main benefit is that your APR goes from 19% to 8%. Not bad! The major risks are all covered in your extensive list.

After you take the loan, you should pay it all towards the credit card, leaving 10k in CC debt. Forget about the loan (besides min. payments) until you finish off that 10k. Then pay back the loan.

We have very little emergency savings

You might want to consider using part of the loan to create a modest savings cushion instead of putting all of it towards covering the debt. Depending on what percent you put in savings, this may increase your total money spent on interest only slightly. However, if you end up having an actual emergency with no savings, and you are forced to go further in debt to resolve it, you may incur greater interest burden: I'm assuming you can't get 8% personal loans at will, so you would be forced to borrow money at 19% against the card. Makes sense to keep some of the money borrowed at 8% around just in case. This is less efficient than paying off everything - the extra interest you end up paying is like insurance against sudden cash requirements.

It's not a strict rule though. I'd suggest doing some what if-calculation in an Excel sheet to figure out what savings ratio satisfies you, if any.

We do have some family safety nets in a worst-case scenario

Would family be interested in providing an even lower interest loan, which would help you get on your feet, and the interest payments would go back to your family instead of the bank?

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    Family as a safety net is fine. Taking that loan when there's no other choice is unavoidable. But in general, I think it's best advised not to mix family and money when you have other options. – Mars Aug 8 at 6:44
  • @Mars Depends on the family, but it is common practice to borrow money from family when in need. It's part of the point of family. – Money Ann Aug 24 at 18:12
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    I'd argue that that's a cultural thing, not necessarily "common practice." Also, people are, on average, pretty financially stupid. They're not very good at risk analysis, so they may make poor/uninformed decisions when loaning to family,-- decisions that may then go south. A bank calculates the risks and is prepared to eat that debt if things go wrong. What happens in a family when things go wrong? – Mars Aug 26 at 0:26
  • The bank is offering 8% on a personal loan. Part of that is to cover their risk, part of that is for profit. If the family gives a less-than-risk-% loan, then they'd essentially be getting a negative expected payout – Mars Aug 26 at 0:36
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It's been mentioned, but I want to reiterate, that if you can, try to get the term loan from a bank that has no fees (origination, termination, possibly even late fees though I presume you'll never be paying late). The reason is I predict within 6-12 months of paying off some or all of your CCs, you will be offered a balance transfer with a very low APR and fees. 0% APR for 12 or more months with a 3% transaction fee is not uncommon if you have decent credit. When that happens, you'll be able to convert some of the loan at 8% into approximately 3%, and you wouldn't have wanted to pay upfront fees on the portion of the money that you'll only have at 8% for a short time.

Another way to think about this is, you don't want to pay a significant fee to refinance a loan if there's a chance you'll be refinancing again in the near future.

5

The one thing I would be cautious about is being sure that you are actually approved for a loan on those terms, by a reputable bank.

Your phrasing makes me wonder if you got a letter in the mail saying "you're approved for a personal loan . . ." If so, look into the sender more (a lot more). A lot of them are highly deceptive, and are looking to trick you into getting into a credit card renegotiation plan (i.e., you tell them "you have authority to negotiate with my creditors on my behalf" and then stop making regular payments in order to give them some leverage . . . which even if it works will do some serious harm to your credit score) or otherwise screw you over. The way it typically works is that you call them or go on their website and they tell you everything looks in order, but they need you to authorize a hard pull of your credit score to confirm. If you say yes, they make the pull (dinging your credit, although generally only slightly), and then tell you "Unfortunately, based on your credit report, we are unable to offer you the original terms we mentioned. However, we can offer you [something vastly, vastly worse]."

4

opportunity cost, origination fees and pre-payment penalties

reputable banks don't generally charge a loan origination fee or pre-payment penalty for a personal loan, but it's worth double-checking. you should be able to find a document or request a response positively confirming that they don't charge either of those.

depending on your credit score and timeline, you might be able to get a better deal by applying for a 0% introductory apr credit card with a 0% introductory balance transfer fee. the risk here is that the interest rate will go up after the introductory rate period (usually 12-18 months). typically you could repeat the trick by applying for a new intro-apr card every year, and you can break the cycle any year with a personal loan. but if your credit takes a hit (e.g. you lose your job), then you might find yourself stuck with the non-intro-apr at some point.

i should also echo the other comments about being totally sure you won't rack up more debt. i realize you're on a budget and making progress on paying down your debt on a monthly basis, but you will still need to be careful when big expenses pop up (e.g. your car blows a head gasket, or your furnace gives up the ghost).

  • Only answer that says, yes, to "if there's any good reason not to do this." Also tl;dr: play the money game, +1 – Mazura Aug 9 at 3:35
1

Assume you are living in the USA, the current(2019) average mortgage rate is 3.99%.

Depends on the repayment period of the 8% personal loan, if it stretches more than 5 years, you should think about re-finance your property mortgage and take advantage of the lower interest rate.

You should get quotes of re-finance interest rates after adding 40k. Add the sum of fees paying to refinance and the interests fees, then compare the total cost of 8% personal loan.

Nevertheless, you should curb the habits of accumulating credit card spending afterwards.

0

Credit card debt is typically unsecured. Does your prospective personal loan require any sort of collateral? If something in your plan goes wrong and you end up facing bankruptcy, the credit card debt could be wiped out, while secured debt would have the collateral taken. Depending on exact circumstances, the personal loan may also end up with other reasons that it would not be discharged.

I'd still say it's probably to your benefit to move from higher to much lower interest-rate debt, but be cautious of this potential downside.

-3

Its always good to pay pay off higher-interest debt with lower-interest debt.

Anything I'm missing or should look out for? - Have good amount of emergency funds.

-6

I would not recommend it.

The 30k is not enough to rid yourself of the CC debt, and you are not addressing your primary issue. This problem is one of overspending that is cleverly disguised as an interest rate problem. As such, if you do this debt consolidation, you will likely find yourself in 30K personal loan debt plus at least 40K in cc debt, plus the student loans, plus the mortgage, plus car loans.

Here is what I would propose, which is radical, but you guys are paying close to $600 per month in CC interest alone. Sorry, but to me it is more radical to work that hard for a bank just so you can have stuff.

On what planet did it make sense for a person in your situation to buy a home? If you have any equity at all in the house then, sell it. You can't afford to cover the emergencies associated with home ownership.

Same thing with the cars, sell them if you can. (You don't state it, but I assume you have car payments.) Replace with low cost beaters.

Get on a monthly written budget, and both of you need to work an extra job or two. Cut out all extra spending. No eating out, no movies, no subscription boxes, etc... Every extra dime goes to paying off debt.

Save 1,000 for emergencies.

Pay off your bills smallest balance to largest. Forget about interest rate, you need the encouragement of winning. You do that by having one of your balances go to zero.

This should go without saying, but cut up all credit cards, and close all CC accounts. Forget about points. You can't go on vacation until this mess is cleaned up anyway. Make a commitment to never borrow again, unless you are purchasing a house. If you decide to keep the house you currently have, then that is off the table too. If you do buy a home in the future, make the commitment to buy it with cash.

Also forget about 401K contributions for now. Radical, I know, but it worked for me.

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    Eliminating 401(k) contributions is a pay-cut if there's an employer match. – RonJohn Aug 6 at 17:34
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    Give the same answer, get the same comments, I suppose. Why shouldn't they do all the things you propose to get out of debt and also use the loan to reduce rate? – Hart CO Aug 6 at 17:56
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    Why do you think the OP isn't addressing his primary issue? He appears to have stopped overspending. Now they wants to rebuild their finances. A lower rate loan will help (a bit). – Martin Bonner supports Monica Aug 7 at 15:39
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    -1, the tips for saving more money are good, but OP specified that they are currently "moving in the right direction" towards clearing this debt. The debt is already decreasing (slowly), meaning that while they may be spending more than they should, they are not spending more than they can currently pay off. I don't see how getting the loan at a low(er) interest rate to pay off the CCs (and keeping expenses constant) will get them deeper into debt, as you claimed it would. – Alexandre Aubrey Aug 7 at 16:24
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    Also, and I'm finished, for most people who don't have enough discipline/willpower to pay off interest in the most logical way and need "the encouragement of winning" to keep doing it, I highly doubt that they'd be able to go through the absolute hell you're trying to set up for them, especially with the TRIPLE jobs (you do realize burnout is a thing, right?). This "method" makes literally no sense, especially because $40k is not a large debt. You don't need such a drastic lifestyle change to pay it off, you just need to stop spending money on useless things. – Demonblack Aug 9 at 10:13

protected by Chris W. Rea Sep 4 at 22:20

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