Hong Life CalculatorsUnderstanding the debt consolidation calculator — concept and principle
Debt consolidation means taking one new loan to pay off several existing debts, such as credit cards and personal loans, leaving a single monthly payment. This calculator compares the total interest of paying up to three debts as they are with the interest and fee of one consolidation loan, so you can see whether the switch actually saves money.
How it is calculated
- Current plan: each debt is paid month by month with its own payment: interest = balance × APR ÷ 12, payment is subtracted, until the balance is zero. Interest is summed over all debts; the debt-free date is the longest of the three.
- New loan: principal L = total balances × (1 + origination fee). The fixed payment is a = L × i ÷ (1 − (1 + i)^−n), with i = APR ÷ 12 and n = years × 12.
- New loan cost: a × n − total balances, which includes both interest and the fee.
- Savings = current interest − new loan cost. A payment that does not cover a debt's monthly interest is flagged.
The principle
Interest depends on three things: rate, balance and time. A lower rate saves money, but stretching repayment over more months adds interest back, and an origination fee is borrowed on top of the debt, so it also earns interest. Consolidation therefore pays off only if the lower rate outweighs the longer time and the fee. The payment formula is the standard annuity formula.
Worked example
- Debts: $6,000 at 24% paying $250, $4,000 at 19% paying $150, $3,000 at 12% paying $120.
- Payoff: 34, 35 and 29 months, with interest of $2,255.61, $1,238.06 and $469.47, so $3,963.13 in total, debt-free in 2 yr 11 mo, paying $520.00 a month.
- New loan: 13,000 × 1.03 = $13,390 at 11% over 48 months. Payment: $346.07.
- Cost: 346.07 × 48 − 13,000 = $3,611.43 ($390 fee plus $3,221.43 interest).
- Savings: 3,963.13 − 3,611.43 = $351.70.
How to read the result
The new loan saves $351.70 and lowers the payment by about $174, but you stay in debt 13 months longer. If you kept paying $520 a month on the new loan, it would be gone in 30 months and cost about $2,344 including the fee, saving roughly $1,619. A positive saving with a much longer term is a weaker deal than it looks.
Common mistakes
- Comparing only monthly payments. A lower payment often hides a longer term.
- Running up the cleared credit cards again, which leaves you with the new loan plus new card debt.
- Leaving out the origination fee or other costs.
- Forgetting a promotional rate that ends during the term.
Frequently asked questions
Does consolidation hurt my credit score?
A new application causes a hard inquiry, but paying cards down usually lowers your credit utilisation. Effects vary by country and scoring model.
Is a balance-transfer card better than a loan?
It can be when the 0% period is long enough to clear the debt, but transfer fees and the rate after the promotion matter.
Sources: Consumer Financial Protection Bureau, "What do I need to know about consolidating my credit card debt?" · S. A. Ross, R. W. Westerfield, B. D. Jordan, Fundamentals of Corporate Finance, McGraw-Hill (annuity payments)