Why would someone borrow money to pay off debt? As counterintuitive as it may sound, it can be a savvy way to save money and repay your high-interest debt quickly. Don’t think of it as taking on more debt, think of it as replacing expensive debt with something more affordable.
Imagine you have $20,000 in credit card debt at 19% interest. If you’re offered a personal loan for the same amount at 11% interest, you could reduce your monthly payments by $89 and you would save $2,834 in total interest payments. (Want to do your own calculations? Visit our loan calculator.)
This prudent trick is known as debt refinancing.
Should I refinance? If your salary or credit score has improved since you first acquired the debt, then you’re a great candidate for refinancing. But even if your financial health has simply remained stable, you can probably get a better deal. Refinancing gives you a second chance to shop around and research your options. Many sources of debt have variable rates, so they may have been affordable initially but over time have become increasingly expensive. A fixed rate loan can help turn bad, expensive debt into something more affordable and that will help build your credit.
A few questions to ask before refinancing:
- Will the duration of your loan increase? Make sure your monthly payments and term length are both decreased. Some lenders will offer to decrease your payments by extending the length of the loan. The longer term means more money wasted on interest payments. Refinancing should reduce your monthly payments and the time it’ll take you to repay the loan. Use our loan calculator to compare existing debt and new rate offers.
- Does your existing loan have any prepayment penalties? Some lenders charge borrowers a fine if they repay their loan early, making it harder to save money by refinancing. Check with your loan provider and, if there is a fee, try to negotiate.
□ Make a list of all your current debts, the amount owed, the interest rate and the APR
□ Review the terms of each debt checking for prepayment penalties
□ Check your credit score and credit report
□ Research your options and check your rates. You can check your rate in 3 easy steps on our platform, just go here.
□ Compare rates to see which deal will save you the most time and money
What is the difference between debt consolidation and refinancing? These terms are often incorrectly used interchangeably. Here is the difference:
Debt Consolidation: Bundling up multiple debts into one payment or loan. Consolidation simplifies your finances but in and of itself does not save you money because your new monthly payment is simply the weighted average of the original loans’ rates.
The class of 2013, averaged $19,000 in private student loan debt and $3,000 in credit card debt from a dizzying mixture of loan providers. These debts are daunting to manage–rates change, bills and terms can be confusing, and payment deadlines vary. Consolidation enables you to lump your bills together under one lower interest rate.
Debt Refinancing: Paying down existing debt with a new loan at a lower rate. Refinancing should decrease your monthly payments and reduce your loan term, saving you money on the total interest paid.
For those with multiple sources of debt, refinancing and consolidation should be combined to both simplify and save.
Debt consolidation and refinancing is the most popular use of funds on our platform, but it is also something that we find often misunderstood or unknown, especially for new borrowers.