Personal Loan or Balance Transfer: 2 Potential Paths to Financial Freedom

A personal loan or balance transfer can help you better manage your debt — here’s how to know which will be a better fit for you.
Last updated Aug. 12, 2022 | By Ben Walker, CEPF
Personal Loan or Balance Transfer

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If you pay interest on your debt every month, it can seem like the amount you owe is endless. You make the minimum payment and try to pay off what you can, but the interest continues to pile up and your debt may actually increase over time. Although it may feel like you’re drowning in debt, there are ways to dig yourself out of this hole and become debt free.

With a personal loan or balance transfer, you can consolidate multiple payments into one and/or get a lower interest rate — making it much easier to manage your debt and pay it off more quickly.

But how do you know which option is best for you — personal loan or balance transfer? And what about how to get a loan? In this article, we’ll go over how both personal loans and balance transfers work, along with their benefits and drawbacks. In the end, you’ll be able to decide which option is best for your situation.

In this article

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.

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.

If you want to get a personal loan, you’ll need to have certain information on hand. You should know the size of the loan you’re requesting and have your Social Security number and income details on hand. You may also need to provide the lender with verifying documents such as bank account statements and/or pay stubs.

Benefits of a personal loan

Personal loans are paid out in a lump sum and funds will be available quickly once you’ve been approved, usually within two-to-five business days. The time for the loan repayment term can vary, but many will fall within one-to-five years. Most personal loans have a fixed interest rate and fixed monthly payments. So you can pay off multiple other debts with your loan and know exactly what you will owe each month.

Personal loans are broad and amounts can range anywhere from a few hundred dollars to tens of thousands of dollars. Since your amount of debt can also range, it’s good to have this kind of flexible option.

Drawbacks of a personal loan

If the interest rate you’re offered isn’t any better than the average interest you’re paying on your existing debt, it’s not worth it to consolidate your debt with a personal loan. Additionally, there are other fees to be aware of and whether your personal loan is secured or unsecured:

  • Origination fees are an upfront cost you pay to the lender when taking out a personal loan. They are usually a percentage of the total loan amount. So if the origination fee is 1% and your total loan amount is $10,000, you’d have to pay $100 upfront.
  • Prepayment penalty fees come into effect if you try to pay off your loan early. Because lenders make money from interest payments, they stand to lose money if a loan is paid early, so they charge a fee to make up for that.
  • Personal loans may come in the form of either secured or unsecured debt. When a debt is secured, it means you put up a form of collateral to qualify for the loan. Collateral could be something like a savings account, house, or car. If you default on your loan, you could lose this item. Most of the best personal loans, though, will not require collateral, and are therefore unsecured.

These fees and distinctions aren’t standard for every personal loan, so make sure you check for them before you choose your loan provider — or they may motivate you to choose a balance transfer instead.

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.

Benefits of a balance transfer

With a balance transfer, you effectively give yourself extra time to pay off your existing debt without incurring additional cost. This is especially helpful if you're carrying a lot of high-interest debt or have a balance on a high-interest credit card. Depending on the balance transfer credit card, you’ll generally have between 12 and 21 months to avoid interest fees and pay off your debt. That could save you thousands of dollars in interest.

Transferring multiple balances to one balance transfer credit card can also help to consolidate your debt. By having only one payment per month you may be able to manage your financial situation easier.

Drawbacks of a balance transfer

Some of the best balance transfer cards come with balance transfer fees that range from 3 to 5% of the amount being transferred. That means if you transfer $5,000, you could end up paying a fee of $150 to $250. Before jumping into a balance transfer, you would first need to consider whether this fee will cost you more money than the interest you were already paying. If so, it wouldn’t be worth it to do a balance transfer.

To benefit from a balance transfer, you also need to have a plan for reducing your debt during the intro APR period. Once the introductory period is over, interest rates will generally increase dramatically. The regular APR will be based on your creditworthiness, but could range from 15% to 25%. If you can’t pay down your debt while you have zero interest, it may not be worth it to do a balance transfer.

If you want to benefit from a balance transfer, you need to avoid common balance transfer mistakes such as running a high balance on your new card. And you should be hyper-aware of making late payments or you could risk losing your 0% intro APR offer.

Lastly, while you may get approved for a balance transfer credit card, you may not receive enough credit to make moving your debt worthwhile. For example, you may want to transfer a balance of $10,000, but your new credit card issuer extended you a credit line of only $2,000. If your credit report will reveal a score that is on the low side, then you may be better off waiting to apply for a new balance transfer card until you improve your credit score. Being able to show you have a good credit history will help you get the credit limit you need.

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 16.24% to 26.24% (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

Ben Walker, CEPF Ben Walker, CEPF, is a credit cards and travel writer at FinanceBuzz who loves helping others achieve their travel goals through financially sound decisions. For over a decade, he has been using credit card points and miles for the sole purpose of traveling the world. Ben is a Certified Educator of Personal Finance and has been featured in The Washington Post, MSN, Debt.com, and Finder.com.