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The “spread” between interest rates on credit cards and personal loans hit an all-time high during the third quarter of 2019, opening up opportunities for consumers to consolidate credit card debt at lower rates.

According to data collected by the Federal Reserve, borrowers who were assessed interest on their credit card accounts paid 16.97% on average during the three-month period ending Sept. 31. But the average rate on personal loans was only 10.07%.

That’s a spread of 6.9 percentage points — an all-time high in Federal Reserve records dating back to 1998.

An analysis of borrowers using the Credible marketplace to take out personal loans to pay off credit cards and other debt found that borrowers with good to very good credit can do even better. Among borrowers with credit scores in the 720 to 779 range taking out 3-year personal loans during September:

  • The median interest rate was 7.25%
  • The median debt consolidated was $15,000
  • The potential savings from refinancing was $2,500, assuming the average credit card interest rate of 16.97%

How to consolidate credit card debt

Diverging rates on personal loans and credit cards mean more consumers can qualify to consolidate credit card debt at a lower interest rate by refinancing it with a personal loan.

When deciding what interest rate to offer, lenders will base most, if not all, of the calculation on the borrower’s credit score.

Data from the Credible marketplace shows that most borrowers will need good to very good credit (a credit score of 680 or above) to get a big rate reduction when consolidating. But even borrowers with fair credit (640 or higher) may be able to save money by refinancing, if they’re paying above-average rates on their credit cards.

The shorter the loan repayment term, the lower the interest rate offered by most lenders. Some borrowers will need to stretch their payments out over a longer period of time in order to be able to afford their monthly payments.

The tradeoff for selecting a longer loan term is often an increase in total interest charges. But borrowers can still pay less when consolidating than if they’d paid back their credit card debt at a higher interest rate over that same period of time.

Growing competition in personal lending

Once available only from a few banks and credit unions, a growing number of online fintech lenders now compete to make unsecured personal loans to consumers. Not only is it easier to get a personal loan, but competition between lenders has benefited consumers. In the last three years, the total volume of outstanding personal loans has grown by 54%, to $148.4 billion, according to TransUnion.

Why rates are diverging

Credit card rates track the Federal Reserve’s moves closely, while rates on personal loans can be more sensitive to market forces. Variable-rate credit cards are typically indexed to the prime rate, so when the Fed raises its target for the short-term federal funds rate, the prime rate usually follows. But because investor demand for long-term debt has remained strong, rates on personal loans have been looking more and more attractive to qualified borrowers.

Improving your credit score

Consolidating credit card debt with a personal loan can improve your credit score in three ways:

  • By reducing the overall amount of debt (if you don’t run up more debt on your credit cards)
  • Lowering your credit utilization ratio (the percentage of your available credit limit you’re accessing on each credit card)
  • Improving your credit mix: If you don’t have a history of making car payments or another installment loan on your credit record, adding a personal loan to your credit mix can boost your credit score

Of course, all of those benefits can be undone if you run up more debt on your credit cards, or can’t keep up with the payments on your personal loan.

A 2017 academic study by researchers at the Georgia Tech Scheller College of Business found that when borrowers took out personal loans to pay off credit card debt, their credit scores increased by an average of 21 points.

But many also saw their credit card limits increased, and it was not unusual for borrowers to start racking up new debt on their credit cards in just a few months. After two years, the group studied had higher average debt levels than when they started and were at a higher risk of default.

Methodology: Median rates based on a sample of more than 2,500 loans made to borrowers seeking to consolidate credit card and other debt through the Credible marketplace during September. Savings estimate based on the median loan balance of $15,000 for borrowers with credit scores in the 720 to 779 range who took out loans with a 3-year repayment term.

About the author
Matt Carter
Matt Carter

Matt Carter is a Credible expert on student loans. Analysis pieces he’s contributed to have been featured by CNBC, CNN Money, USA Today, The New York Times, The Wall Street Journal and The Washington Post.

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