Navigating through credit card debt is a grueling uphill battle millions of Americans currently face. Whether it’s due to unexpected medical expenses, sudden home repairs, or simply the lack of knowledge on the importance of paying off credit cards in full each month, getting trapped under high-interest credit card debt is not uncommon. If you fall under this category, refinancing credit card debt may potentially ease this burden and help you clear your debt faster.
- Credit card refinancing involves transferring high-interest credit card debt to a new credit card or loan with a lower interest rate to reduce the total amount of interest paid.
- There are several ways to refinance credit card debt, including taking out a personal loan, doing a balance transfer, using a home equity line, or drawing from a retirement account. Other alternatives include setting up a debt management plan, negotiating a debt settlement plan, or reaching out to a credit counseling agency.
What is Credit Card Refinancing?
Credit card refinancing is a strategy aimed at reducing the amount of interest you pay on your credit card debt and saving money in the long run. It involves transferring your existing credit card balance(s) from one or multiple credit cards with high-interest rates to another credit card, loan, or financial product with a lower interest rate.
However, credit card refinancing is most effective when combined with responsible financial practices, such as creating a budget, making consistent and timely payments, and avoiding excessive spending. It’s essential to use the opportunity provided by refinancing to make significant progress on reducing debt and not fall back into the habit of accumulating new debt you can’t repay.
Credit Card Refinancing vs. Consolidation
When it comes to tackling credit card debt, there are 2 main methods: debt refinancing and debt consolidation. Debt consolidation involves getting a loan with a lower interest rate and using it to pay off multiple credit card balances. This loan can be secured, meaning it requires collateral such as a home, or unsecured, like a personal loan without any collateral. Although debt refinancing and debt consolidation share similarities, they have distinct objectives:
- Credit card debt refinancing typically gets used to minimize credit card interest charges.
- Credit card debt consolidation is frequently chosen to simplify credit card bills by combining them into a single payment.
How to Refinance Credit Card Debt
Apply For a Personal Loan
A personal loan is an unsecured loan that allows you to consolidate credit card debt without putting up any collateral. Personal loans typically offer lower interest rates than credit cards, though you’ll likely need a credit score of 670 or higher to qualify for the best rates. Some lenders may also charge an origination fee for taking out the loan.
Personal loans allow you to borrow anywhere from a few thousand to tens of thousands of dollars, giving you the ability to move several credit card balances to one loan. Before taking out a personal loan, compare different lenders to find the best option with competitive interest rates and repayment terms. Once you’ve chosen a suitable lender, submit your loan application, providing all necessary information, such as the amount you wish to borrow, personal details, employment information, income, and recurring expenses.
If your loan application is approved, you’ll receive the funds, which you should use to pay off your credit card debt entirely. This move will help you avoid further interest charges and streamline your debt into a single monthly payment. Be diligent about making your loan payments on time each month, and consider setting up automatic payments to stay on track and maintain a positive credit history.
Get a Balance Transfer Card
Balance transfer cards offer the advantage of 0% interest on balance transfers from high-interest cards. During the introductory period, your entire payment goes towards reducing the balance without any interest charges. However, the 0% interest rate is temporary, usually lasting between 12 to 21 months, after which a standard APR, typically ranging from 18% to 24% or more, will apply.
Note that some cards have specific time frames for qualifying for the 0% intro APR. For instance, you may need to complete the balance transfer within a specified number of days after opening the account to be eligible for the promotional rate. Additionally, consider any transfer fees associated with balance transfer cards, typically ranging from 3% to 5% of the transferred amount.
This method is most suitable for people who believe they can completely wipe out their debt within the introductory period. There is a limit to the amount you can transfer, typically up to your new credit limit. In such cases, prioritize the debt with the highest interest rates to maximize savings.
Before deciding on a balance transfer card, review and compare various options to find the best fit for your needs. Even if you don’t qualify for a 0% intro APR card, you can still refinance credit card debt by finding a card with a lower APR. Even a slightly lower APR can translate to substantial savings over time.
While the 0% APR offer can be enticing, exercise caution and avoid making unnecessary purchases with the balance transfer card. Remember, the primary purpose of getting a balance transfer card is to pay off debt, not accrue additional debt. Be mindful of sticking to your repayment plan and using alternative payment methods for new purchases to avoid further financial strain.
Use a Home Equity Loan or Line of Credit
If you are a homeowner with equity in your house, consider using a home equity loan or line of credit. A home equity loan is a lump-sum loan that allows you to borrow against the value of your home, capped at 80% of your equity. These loans are typically offered by banks and online lenders. The application process is thorough, akin to mortgage refinancing, with the possibility of incurring closing costs.
Alternatively, you can opt for a home equity line of credit (HELOC), which functions like a credit card. It is a revolving line of credit that allows you to borrow up to a predetermined limit and pay interest only on the amount borrowed during the draw period.
A HELOC allows for more flexibility, borrowing only what you need during the draw period, while a home equity loan provides a fixed lump sum with a fixed interest rate you need to repay over an agreed-upon timeframe. The advantage of a home equity loan is that interest rates can be very low, particularly if you have good credit. They can be comparable to home mortgage rates. However, if you have a lower credit score, you may face higher interest rates.
Home equity loans or HELOCs are well-suited for individuals with a substantial amount of credit card debt seeking a more extended repayment period, typically spanning over 10 years or more. These loans are secured by your home, with the amount you can borrow determined by your home equity. To calculate your equity, subtract the outstanding mortgage amount from your home’s current value.
The most favorable interest rates are typically offered to borrowers with higher credit scores. Shop at various local credit unions, banks, and online lenders to find the best rates that suit your financial situation.
Before considering a home equity loan, ensure you have sufficient equity in your home. The loan uses your home as collateral, meaning the lender could take possession of your house if you fail to make payments. Additionally, taking out a home equity loan could extend the time it takes to pay off your home.
Borrow From a Retirement Account
If you find yourself in a situation where you have bad credit and no other options, you might consider borrowing money from your 401(k) as a last resort. A 401(k) loan doesn’t require established creditworthiness, and the interest rates may be lower than those of credit cards, depending on your employer-sponsored plan. The interest charges you pay go back to your retirement account, so you avoid paying interest to a bank or financial institution.
However, borrowing from your 401(k) can impact your retirement, especially if you fail to repay the borrowed amount. Taking money out of your retirement fund reduces your future retirement income and sets you back financially, particularly as you approach retirement age. Moreover, if you lose your job, the balance of the 401(k) loan becomes due within 60 days of termination, adding further financial strain.
Additionally, there may be tax implications. If you’re younger than 59.5 years old, you would typically be subject to taxes and penalties on the funds borrowed if they are not repaid.
When considering a 401(k) loan, keep in mind that you’re usually allowed to borrow up to 50% of your 401(k) account balance, up to a maximum of $50,000. The IRS also requires you to repay the loan within 5 years. In some cases, you might get restricted to taking out only one loan against your 401(k) plan at a time. If you decide to proceed with this option, consult your 401(k) provider to understand the loan terms fully.
Will Credit Card Refinancing Hurt Your Credit Score?
Refinancing credit card debt can impact your credit score in the short and long run, but there are ways to minimize its effects. When you apply for a new credit card or loan for refinancing, lenders will pull a “hard inquiry” on your credit report, which can lower your credit score by a few points. Additionally, applying for a new credit card or other loan will lower the average age of your credit, which might slightly ding your credit score.
On the plus side, once you transfer the balance or pay off your credit card debt, your credit score will likely improve over time. A balance transfer can help your credit utilization ratio, potentially increasing your available credit relative to the credit used.
Should You Refinance Your Credit Card Debt?
Refinancing your credit card debt may be the push you need to boost your financial situation, but it is essential to consider your circumstances before making a decision. If you are in a stable financial position but saddled with high-interest credit card debt, refinancing could alleviate some stress. Credit card debt typically comes with high-interest rates, and making only minimum payments can lead to significant interest charges over time. By refinancing, you may secure a lower APR or interest rate, which can help save thousands of dollars in interest payments throughout the loan’s term.
For those with a good credit score, qualifying for a lower APR on another credit card or a lower interest rate on a loan is more likely. Refinancing can also improve your credit score by reducing your credit card utilization ratio when you open a new credit card, increasing your total available credit.
However, certain refinancing options may be more suitable for you than others. For example, taking out a home equity loan can put your home at risk if you struggle to make timely repayments. Similarly, personal loans with origination fees may cost more than they save.
Credit card debt refinancing may not be helpful if you have trouble remembering to make payments on time, cannot qualify for a favorable APR or low-interest loan, or expect to pay high balance transfer fees that outweigh the benefits of refinancing.
If you have relatively small credit card balances, a 0% introductory APR credit card can help you effectively pay off debt interest-free. But, balance transfer cards come with potential pitfalls, such as short-term 0% interest periods and balance transfer fees. Additionally, if you don’t fully repay your debt during the promotional period, the interest charges will quickly escalate.
For those who need handholding, balance transfer cards may not provide a structured plan to fully eliminate the debt. Without discipline, you might end up making only minimum payments or increasing your debt balance. Moreover, qualifying for 0% interest balance transfer cards often requires a high credit score, making them inaccessible to some borrowers.
If refinancing is not an option, there are a few other alternatives.
Debt Management Plan
If you are struggling with significant credit card debt and feel overwhelmed, seeking help through a debt management plan could be a viable option. Nonprofit credit counseling organizations can assist you in creating one and work with your creditors to establish a structured financial plan for repaying your loans.
The typical process of a debt management plan involves depositing money with the credit counseling organization, which in turn, uses those funds to make payments to your creditors on your behalf. While there are fees associated with this service, including ongoing monthly and setup fees, it can be worthwhile if you lack confidence in making on-time payments and prefer to have someone negotiate lower interest rates and manage a set payment plan for you.
Enrolling in a debt management plan may be beneficial in negotiating lower monthly payments, reducing higher interest rates, and aiming to pay off your debt within a manageable timeframe, usually ranging from 36 to 60 months. When considering this route, thoroughly research and vet your options. Look for credit counseling organizations accredited by the National Foundation for Credit Counseling (NFCC) to ensure legitimacy and avoid dealing with shady organizations.
Debt Settlement Programs
In certain cases, creditors may be open to settling the debt for a lower amount than what you owe via a debt settlement program. These programs ensure the debtor does not file for bankruptcy, which could result in the debt getting cleared.
You can contact your credit card issuer directly to see if they are willing to settle the debt for a reduced amount. Another option is to engage a debt settlement company, such as Freedom Debt Relief, which specializes in negotiating with creditors on your behalf.
Debt settlement programs typically get offered by for-profit companies that negotiate with your creditors to reach a resolution, wherein the debt gets settled for less than the original owed balance. To participate in such a program, you will need to make monthly payments into an escrow fund, accumulating a lump sum to settle the debt.
Reaching the required “lump sum payment” often takes 24 to 36 months or even longer. As part of the agreement with the debt settlement company, you will be required to stop making monthly payments to your creditors during this period. Unfortunately, this can hurt your credit score since you are not making regular payments.
It’s crucial to exercise caution when considering debt settlement programs. The Federal Trade Commission (FTC) and Consumer Financial Protection Bureau (CFPB) strongly advise consumers to research their options thoroughly and be wary of potential scams. Be cautious of companies that make unrealistic promises or guarantee to settle your debt entirely. Additionally, avoid organizations that request upfront payments before providing any service.
Working with a Credit Counselor
Working with a credit counselor, especially from an accredited credit counseling agency, is a great way to explore potential debt-relief options. Nonprofit credit counseling agencies offer free credit counseling services, where knowledgeable counselors will thoroughly review your budget, assess various debt consolidation alternatives, and propose potential solutions tailored to your specific circumstances. Additionally, for-profit credit counseling agencies are another option, though they may charge a fee for their services.
When you engage with a credit counselor, they will analyze your financial situation comprehensively. They will take into account your income, expenses, and outstanding debts, including credit card balances. By understanding your financial position, they can help you identify potential areas where you can cut costs, create a workable budget, and suggest the most appropriate debt relief strategies.
It’s crucial to work with an accredited credit counseling agency so you can receive reliable and trustworthy advice. Accreditation by organizations like the National Foundation for Credit Counseling (NFCC) or the Financial Counseling Association of America (FCAA) ensures that the agency follows strict standards and adheres to ethical practices.
The Bottom Line
If you want to refinance credit card debt, carefully evaluate your circumstances and goals beforehand. While refinancing can potentially reduce interest payments, simplify monthly bills, and help you work towards becoming debt-free, it’s not always the best option. Refinancing credit card debt can have short-term impacts on your credit scores, so weigh the benefits against the cons first.