See how debt consolidation works and what it could change

Key points

• Debt consolidation replaces several eligible debts with one new loan, so one repayment goes out instead of many.
• It can change three different things: how many repayments you juggle, how much of each pay cycle they take, and what the debt costs in total. These do not always improve together.
• A lower repayment is not automatically a saving. Spreading the same debt over a longer term can cost more overall, even at a lower interest rate.
• Consolidation is not right for everyone. If you cannot cover essentials, hardship support comes before any new loan.

When money is owed in several places, the debt itself is only part of the issue. A credit card payment leaves on the 4th, a personal loan repayment on the 15th, another credit card at the end of the month, and a couple of Afterpay instalments land somewhere in between. Each one has its own balance, its own interest rate and its own due date – keeping them all funded can mean shuffling money between accounts and hoping nothing has been missed.

In interviews with WeMoney members about debt, this juggling came up well before the interest did. People described checking several apps to work out what had already disappeared from their account, what was still coming – the relief they wanted was almost always a schedule they could remember, not just a cheaper rate. Debt consolidation is one way people can get there, and it helps to understand exactly what it is.

How debt consolidation works

Debt consolidation means taking out one new personal loan and using it to pay out two or more existing debts. The old balances are cleared, those accounts can then be closed, and what remains is the new loan with a single repayment, one interest rate and a set end date.

In Australia this is usually done with an unsecured personal loan, though some people consolidate by refinancing their home loan or transferring balances to a credit card, which work differently and carry their own trade-offs. Which debts can be included depends on the lender. Credit cards and personal loans are commonly eligible, while other kinds of debt are often treated differently, and each provider assesses what it will accept at the time you apply.

The payout of your old debt can happen two ways. Some lenders pay your old creditors directly, which saves you time and reduces the chance that an old balance lives on unnoticed. Others transfer the funds to you to pay out each debt. Members who consolidated by using WeMoney told us they preferred the lender paying out their old debt precisely because chasing old accounts to close is the kind of admin that is demoralising. Whatever way your old debts get paid off and accounts closed, confirming they've been cleared and closed is part of the job.

A consolidation loan is still a loan. The lender assesses your income, expenses, existing debts and credit history, applying for one involves a credit check, and approval is never guaranteed.

Three changes worth remembering

It is tempting to judge consolidation by starting with "will I save money", however our members tell us the way they'd sooner consider consolidation today is from three key perspectives:

The number of repayments. Five due dates becoming one a month is headspace they desperately need. One amount to know, one date to plan around and one balance that tells you where you stand. For people who were needing to build their debt picture constantly across several apps each week, that alone changed how often money interrupted their day.

How often you're paid. Because a consolidation loan can run over a chosen term up to 7 years, the new repayment is most likely smaller than all your old repayments added together. That frees up room between paydays for groceries, fuel and the irregular costs that were previously landing on a credit card. This breathing room is an improvement you feel day to day, and it is also the change most easily mistaken for saving money.

The total cost of the debt. Interest and fees over the whole life of the loan can go down, stay similar or go up. While the repayment you feel each month and the total you pay over the years can move in different directions, consolidating is often a solution our members reach for to fit their current circumstances.

The same loan, two different outcomes

Below is an illustration of someone holding three debts totalling $18,000, an $8,000 credit card and a $4,000 credit card, both at 20.99%, being paid at $250 and $125 a month, plus a $6,000 personal loan at 12.5% with three years to run at about $201 a month. Altogether that is about $576 a month, and if everything stayed on schedule the remaining interest would come to roughly $6,970, with the credit cards taking around four years to clear.

Now compare one consolidation loan of $18,000 at 11.99%, taken over two different terms.

The three-year version asks for ~$5 a week more than the current arrangement and cuts the interest bill roughly in half. The five-year version keeps ~$176 per month in your account each month, saves almost a grand in interest, and takes a year longer to pay off. Same loan, same rate, different options – someone whose pay cycle is suffocating may value the room to breathe, while someone else who wants to pay it off sooner may opt for a shorter term.

Fees are something to compare too: a $400 establishment fee would trim those interest savings to about $3,050 and $550 respectively, and ongoing monthly fees compound the effect. When comparing loans, the comparison rate is a useful guide because it bundles the interest rate with most standard fees.

Where consolidation can leave you worse off

Consolidation moves debt around, and moving it is not the same as reducing it. Something our members are grateful WeMoney helps them understand, like that a longer term at a lower rate can still cost more in total. Another is if the credit cards that were paid out stay open – their limits sit there available, and several members told us the balances crept back after a shortfall or an emergency, leaving them with the new loan and the old credit card debt. Closing or reducing paid-out limits, and deciding deliberately whether one credit card stays open as a fallback for emergencies only is part of making consolidation work best for you. While consolidation doesn't change the income, essential costs or irregular bills that created the pressure in the first place, it can be a useful tool for controlling cost and giving you the breathing room.

If repayments are already unmanageable

Consolidation suits people who can manage a sensible repayment and mainly need the structure fixed. If essentials like rent, food or power are being missed, or a new loan would be used to survive rather than to reorganise, support comes first. Every credit provider has a hardship team you can ask for changed repayments, and the National Debt Helpline on 1800 007 007 offers free, confidential financial counselling, weekdays 9:30am to 4:30pm.

Thinking about your own position

Whether consolidation suits your situation depends on the questions this article hasn't answered for your personal circumstances: whether your debts are eligible, what a realistic rate and term would look like for you, and whether the maths works in your direction. Working through your own numbers with the three changes separated, repayment count, pay-cycle room and total cost will be the best way to see what works best for you.

The WeMoney app can help you with first seeing all your debts, balances and repayments in one place once your accounts are connected. If you're interested in getting on top of your debt, then WeMoney can help with that too by allowing you to compare consolidation offers from our lenders right in the app.

Sources

• Moneysmart: Debt consolidation and refinancing
• Moneysmart: Personal loans
• Moneysmart: Urgent help with money

This article provides general information only. It does not take your personal circumstances into account and is not financial, credit or legal advice. Consider your own situation and seek advice from a suitably qualified professional if you need it.