Credit Card vs Personal Loan: Which is Better For Debt Consolidation

Give yourself some breathing room while you tackle your debt.
Last updated Sept. 27, 2022 | By Angela Brown

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Here are some alarming figures —

More than 35% of all American adults with a credit file have some record of debt collections on their credit report, according to a study by the Urban Institute. The study also reported that those same people had an average balance of more just over $5,100 in collections.

A FINRA report further indicates that 32% of Americans only make the minimum payments due on their credit cards.

If you find yourself among this group of people and you're wondering how to pay off debt faster so you can have a little more breathing room, you're likely considering some form of debt consolidation.

In this article, we're going to look at the differences between using a credit card versus a personal loan for debt consolidation, and determine which one is the best option for you.

How personal loans work

You may have wondered how personal loans work and whether they could be beneficial for you. Simply put, a personal loan is a set amount of money borrowed from a lender that has to be paid back within a certain period of time. Because the lender aims to make money, there is interest attached to the loan.

Personal loans are an unsecured lending option that allows buyers to access funds to use for whatever they need. The loan is considered unsecured because it isn't tied to a home or other form of collateral.

According to an Experian survey, 26% of consumers with personal loans were using them as debt consolidation loans. Debt consolidation is a method in which you combine multiple debts, such as credit card payments, into one lower-interest payment. Because credit card interest rates are typically high compared to loan rates, a low-interest rate personal loan could be an ideal tool for paying off credit card balances.

Whether it’s beneficial to use personal loans for debt consolidation depends on each unique situation. For example, if you’re trying to pay off $5,000 in credit card debt across two cards ($2,500 each), you may consider a personal loan to help you lower your high credit card interest rates.

If one card has an interest rate of 20% and the other card has an interest rate of 10%, you’re looking at an average interest rate of 15% across both cards. If you can’t find a personal loan with an interest rate of less than 15%, it wouldn’t make sense to consolidate your debt, as you’d end up paying the same amount of interest or more.

Personal loans come in a lot of different flavors with interest rates and terms running the gamut from low-cost to obscenely expensive. They are available from a variety of lenders including credit unions, banks, and online lenders.

Is it a good idea to get a personal loan to pay off debt?

Maybe. If you have the discipline to put your credit cards away after you use a personal loan to get out of debt, this method could be very beneficial. If, however, you take your recently cleared cards and start spending again, you could find yourself in serious financial trouble.

Benefits of using a personal loan

  • Personal loans often higher amounts of money, so if you have a substantial amount of credit card or loan debt, this could help consolidate it all into one bill.
  • There are a lot of lenders who offer personal loans for individuals with spotty credit.
  • Personal loans offer fixed repayment terms. This means that you and the lender agree on a certain payment amount every month, and it doesn't change. Most personal loans are fixed-rate, so you can rely on the same payment every month until the balance is gone.
  • Personal loans offer lower interest rates than most credit cards. If you have credit cards with higher interest rates, you may be able to save money by consolidating all of your debt into a personal loan.
  • A personal loan extends the amount of available credit you have, which can help raise your credit score.

Drawbacks of using a personal loan

  • If you have bad credit, your interest rate may be higher. Because the loan is unsecured, the lender may offer loans with higher rates to protect their investment.
  • Fees. Personal loans have fees that can add to your total amount owed. Fees to look out for include a loan origination fee and early repayment fees. Some lenders also charge insurance and processing fees.
  • If you use a personal loan to clear credit cards, you may be tempted to start spending on your credit cards again.

The impact on your credit

Personal loans, like any other loan or credit card, can impact your credit score in a variety of ways. Any time you apply for a loan or line of credit, your score could be affected when lenders pull your credit report and/or score. Further, opening a new line of credit could affect your credit utilization.

If done correctly, a personal loan could actually raise your credit score as it extends the difference between the amount of credit you have available and what you actually use. This is one reason people consider personal loans for consolidating debt.

How balance transfers work

If you’ve found yourself racking up debt, you may have wondered how a balance transfer works. Balance transfers are a way of moving existing debt onto a credit card that typically has a 0% or low interest rate. The point of transferring a balance is to reduce your overall interest cost. This reduced cost may help you get out of debt faster.

Although it’s common to transfer a credit card balance from one card to another, you can also transfer balances from many different loans and even medical bills. What type of debt you can transfer will depend on the particular credit card issuer.

If you’re paying high interest rates on one or more debts and you find you’re not able to keep up with payments or don’t feel like you’re making progress in reducing your balances, it could make sense to consider a balance transfer.

Is a balance transfer a good idea for consolidating debt?

It can be. The biggest benefit of a balance transfer card is that they often offer promotional rates of 0% interest. This means that when you pay money towards the debt, all of it goes towards the principal. This could make it much easier for you to pay your debt off quickly.

You'll want to pay close attention to the terms of your balance transfer card because shorter terms may not be very helpful, and some cards charge a certain percentage of your balance as a fee. Check out our list of the best balance transfer cards for more information about specific cards.

Benefits of using a balance transfer card

  • Promotional rates can be amazing. If you can snag a 0% percent interest rate for 12 to 18 months, you can make a serious dent in the amount you owe, very quickly.
  • Transferring your debt to a balance transfer card increases the amount of credit you have available, which can help boost your credit score.
  • Minimum payments may be relatively low, making a transfer card an affordable option.
  • Balance transfer cards may be a more affordable option if you don't have a lot of debt types.

Drawbacks of using a balance transfer card

  • Transfer cards charge a transfer fee of up to 5% of the balance you owe, so your total debt owed actually increases, at least temporarily.
  • Promotional rates are temporary, so your payment could change. If you don't pay off your total debt before it's paid off, your minimum payment could adjust higher, depending on the balance you have left.
  • You need a relatively healthy credit score to qualify for the best promotional offers. If you score is spotty, you may not even qualify for no interest terms.
  • Most companies won't let you transfer student loan or auto loan debt to this type of card.

The impact on your credit

Like personal loans, a balance transfer can affect your credit score via inquiries and credit utilization. The biggest concern is applying for too many balance transfer cards at the same time. With loans, credit reporting companies may view multiple inquiries in a month as "shopping for interest rates," so your credit score may not get dinged as much. However, applying for several credit cards in a short period of time reflects negatively on your credit score.

Personal loan vs balance transfer card — Which is better?

When a personal loan is a better choice

If you’re trying to pay down a large amount of debt, a personal loan may be the better choice. Here’s an example to illustrate why:

Your existing credit card debt If you do a balance transfer If you take out a personal loan
Debt owed $20,000 $21,000
(original $20,000 balance plus a $1,000 balance transfer fee)
$20,000
Interest rate % 17% 0% for 18 months, then 17% 9.41%
Monthly payment amount $484 $210 for 18 months, then $416.15 $419
Time to pay off balance 63 months 81 months 60 months
Total interest paid $10,293.36 $8,884.20 $5,149.49

If you want to pay off a $20,000 balance on existing credit cards that have an average interest rate of 17%, your minimum monthly payment would be $483.33 (your monthly payment is typically the interest charge plus 1% of your balance). Paying this amount, it would take you 63 months to pay the balance and you’d pay $10,318.59 in interest in the process.

With a balance transfer, you would owe a total of $21,000 because of a $1,000 balance transfer fee (5% of the balance). During the 18-month 0% introductory rate period, your minimum monthly payment (1% of the balance) would be $210. After that, with a 17% interest rate, your minimum monthly payment would be $416.15. With these payments, it would take 81 months to pay off your balance and you’d pay $8,884.20 in interest in the process.

If you took out a 5-year personal loan for $20,000 with an average interest rate of 9.41%, your estimated monthly payment would be $419. In five years, you would pay off your balance and pay a total of only $5,149.49 in interest. In this scenario, you would pay the least amount of interest and your debt would be paid off the quickest by using a personal loan.

When a balance transfer is a better choice

If you’re trying to pay down relatively small amounts of debt in a short amount of time, then a balance transfer may be the better option. Here’s an example to illustrate why:

Your existing credit card If you take out a personal loan If you do a balance transfer
Debt owed $5,000 $5,000 $5,250
($5,000 balance plus a $250 balance transfer fee)
Interest rate % 17% 9.41% 0% for 21 months
Monthly payment amount $120.83 $105 $250
Time to pay off balance 63 months 60 months 21 months
Interest paid $2,579.74 $1,287.37 $0

If you make a big purchase of $5,000 on an existing credit card with an average APR of 17%, your minimum monthly payment would be $120.83. If you paid that amount every month, it would take you 63 months to pay off your balance and you’d pay $2,579.74 in interest.

With a five-year personal loan for $5,000 with an average interest rate of 9.41%, your estimated monthly payment would be $105. In five years, you would pay off your balance and pay a total of $1,287.37 in interest.

If you transferred your $5,000 balance to a different credit card, you could pay a $250 balance transfer fee (5% of the original amount) and have a 0% intro APR period of 21 months. Balance transfers generally make sense when you try to pay off your balance completely before the 0% intro APR period ends. If you pay $250 every month for 21 months, you would completely pay off your balance and pay nothing in interest, which makes this the quickest and most valuable option in this scenario.

If this scenario sounds like you, then a great card to consider is the Citi® Double Cash Card - 18 month BT offer. It offers a 0% intro APR on balance transfers for 18 months (then 16.99% to 26.99% (variable)). It also has a $0 annual fee.

Bottom line on personal loan vs. balance transfer

At the end of the day, there’s no one right answer for everyone when it comes to financial products — whether a personal loan or balance transfer will be best for you will depend on your situation. If you’re trying to decide between personal loans and balance transfers, ask yourself these questions:

  • What is your total amount of debt?
  • What type(s) of debt do you have?
  • How many sources of debt do you have?
  • What are the interest rates you’re dealing with?
  • Do you have a plan for your repayment timeline?
  • How much of a loan or credit line would you qualify for?
  • Can you cover the fees associated with either option?

Remember to consistently evaluate your goals and finances, and take some time to sit down and do some calculations. Depending on the amount of debt you owe, doing some math now could save you a lot of money over time.

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Author Details

Angela Brown Angela Brown is a freelance finance and real estate writer who loves the beach. Get to know her!