Debt Consolidation Loan Requirements

Qualifying for a debt consolidation loan depends on a few standard lender criteria. Lenders typically look at your credit history, income, and current debt levels. These factors all play a role in whether a lender approves your loan application, as well as the terms of your loan if you are approved.

By understanding debt consolidation loan requirements, you can figure out if consolidation is a realistic option for you. If so, you’ll be ready to take the next steps and apply for a loan. If not, you can start looking for other ways to get free of debt.

What Is a Debt Consolidation Loan?

A debt consolidation loan is a loan used to combine multiple debts into one monthly payment. The most common types of debt consolidation loans are personal loans and home equity loans. Debt consolidation loans usually have fixed interest rates and monthly payments.

The main goal of debt consolidation is simplifying monthly payments. If you have several debts, all with different due dates, you need to stay on top of the payments for each one. But if you pay off those debts with a debt consolidation loan, then you’ll only have a single monthly payment going forward.

In some cases, debt consolidation can also help you get a lower interest rate on your debt. It can be especially helpful if you have credit card debt. Personal loans and home equity loans have lower interest rates than credit cards, on average. You could reduce your interest rate quite a bit by paying off credit cards with a debt consolidation loan.

But debt consolidation doesn’t always result in a lower interest rate. To find out, compare the interest rate you can get on a debt consolidation loan to what you’re paying on your current accounts.

Common Debt Consolidation Loan Requirements

Lenders evaluate several factors when you apply for a loan. Exact debt consolidation loan requirements vary by lender, but the following factors tend to be the most important. Keep in mind that approval isn’t guaranteed even if you meet all the requirements. By that same token, falling short in one area doesn’t always lead to a denial.

Credit score

Many lenders have minimum credit score requirements of 640 to 660 for debt consolidation loans, but there are plenty of exceptions. Some lenders specialize in debt consolidation loans for bad credit.

You might also be able to qualify for a home equity loan or home equity line of credit (HELOC), even with a low credit score. Your home serves as collateral guaranteeing a HELOC or a home equity loan, which means there’s less risk for the lender.

Applicants with higher credit scores can typically qualify for better interest rates and terms. If you can boost your credit score before applying for a debt consolidation loan, you could get a better deal.

Debt-to-income ratio (DTI)

Your debt-to-income (DTI) ratio is the percentage of your monthly income going toward debt payments. To calculate your DTI ratio, divide your total monthly debt payments by your gross monthly income.

For example, you earn $5,000 per month and have debt payments of $1,000, $500, and $500 each month. Your DTI ratio is $2,000 in combined debt payments divided by $5,000 in income, which is 40%.

Most lenders prefer a DTI ratio under 43%, although once again, this varies by lender. A low DTI ratio is a sign that you might have enough room in your budget to comfortably afford the payment on a loan.

Steady income and employment

Lenders want to see that you can reliably make the payments on a loan, and they normally evaluate that by looking at your income and employment situation. A regular paycheck is a big help here.

You may need to provide proof of income during the loan application process. Options depend on whether you have a full-time job or are self-employed and may include:

• Pay stubs

• W-2 forms

• Tax returns

• Bank statements

Loan amount and collateral

Ideally, your loan amount will align with the amount of debt you want to consolidate. If you have $25,000 in debt to pay off, then you could consolidate it all with a $25,000 loan.

The amount you can borrow largely depends on the lender, your income, and the type of debt consolidation loan you get. Most personal loans for debt consolidation are unsecured, meaning they don’t require any collateral. Since lenders take on more risk with unsecured loans, loan amounts may be lower.

Another option, home equity loans, are secured loans. These often have higher loan amounts, with the tradeoff being that your home is at risk if you default.

How to Check if You Qualify for a Debt Consolidation Loan

To find out if you qualify for a debt consolidation loan, start by evaluating your financial situation. Use free credit score tools online to check your credit and see if it falls within the typical minimum for a loan. This is also a good time to pull your credit reports, review them, and dispute any inaccurate items, such as credit accounts that don’t belong to you. Any errors you get removed from your credit report could boost your credit score.

When you’re ready to look for loan options, go to lender websites and look for a prequalification option. Many lenders offer a prequalification tool where you can enter some basic information and see potential loan rates. Checking whether you’re prequalified for a loan normally only requires a soft credit check, which doesn’t affect your credit score, and can give you an idea of whether you’re likely to be approved.

Make sure to go through the prequalification process with multiple lenders. Banks, credit unions, and online lenders are all worth checking out. By comparing loan offers, you can pick the lender that offers you the terms you like most.

Prequalification is a fast, easy way to gauge your chances of getting a loan and see what kind of terms you could qualify for. The loan application process itself is longer and requires more information. You may want to gather loan documents you’ll need, such as your ID and proof of income, in advance to streamline the application process.

What to Do if You Don't Qualify for a Debt Consolidation Loan

If you don’t qualify for a debt consolidation loan, you still have options. There are other proven ways to deal with debt that don’t require a good credit score, a low DTI ratio, or applying for a new loan.

Debt management plan (DMP)

A debt management plan (DMP) is a debt solution offered by nonprofit credit counseling agencies. A credit counselor assesses your financial situation and sets up a payment plan with your creditors for you. In some cases, credit counselors can negotiate reduced interest rates or fee waivers, although this isn’t guaranteed.

You make one monthly payment to the credit counseling agency, and it distributes that payment to your creditors. DMPs typically last three to five years and require closing the credit accounts included in the plan.

Monthly payments on DMPs can be high, so this option is best suited for those with good income who can afford to fully repay their debts.

Debt settlement

Debt settlement involves negotiating with creditors or debt collectors to pay off a debt for less than the amount owed. You don’t need a loan or a high credit score for debt settlement, and anyone can negotiate their debt themselves.

You could also work with a professional debt settlement company that does the heavy lifting for you. With this option, experienced negotiators talk to creditors on your behalf. You just make one affordable monthly deposit and wait for settlement offers. Most debt relief clients settle their first debt within a few months, and the typical program timeline is two to four years.

If you can’t afford to fully repay your debts, debt settlement could be the right solution. Check out some of the most common questions about debt relief to learn more.

Hardship programs

Some creditors offer hardship programs to clients who are going through financial difficulties. These programs provide temporary relief, such as lower monthly payments, reduced interest rates, waived fees, or a pause in payments.

If you’re going through a temporary financial hardship (like a job loss or a medical problem), contact your creditors to see if they have any relief options available. It’s best to ask about this before you miss any payments. Be prepared to provide documentation to verify your hardship.

Bankruptcy

Bankruptcy is a legal process to discharge or restructure debt. Chapter 7 bankruptcy may allow you to discharge qualifying debts, while Chapter 13 bankruptcy provides you with a three-to-five-year repayment plan.

Bankruptcy is generally for severe debt situations and for those who need legal protection from creditors. If you’re unsure whether bankruptcy is right for you, consult with a qualified attorney to get legal advice on your specific situation.

Getting a Debt Consolidation Loan

A debt consolidation loan is one of several ways to take control of debt. You can get out of debt no matter which path you take. Whether you choose a consolidation loan or another option, the most important part is getting started.

Take the first steps of listing your debts, making a budget, and checking your credit. Once you’re done, you’ll be able to figure out if a debt consolidation loan is the most appropriate solution.

For a helping hand, explore a free debt evaluation with Freedom Debt Relief. You can talk to a Certified Debt Consultant for personalized advice on how to get rid of your debt.