I asked a financial planner who should consider debt consolidation

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• There are several options for debt consolidation with their own pros and cons.
• Debt consolidation can turn debt into a manageable problem, but it doesn't get rid of the problem.
• Before pursuing debt consolidation, make sure you understand why you got into debt to begin with.

With rising inflation and steep interest rates, it's harder to stay ahead of expenses. A lot of people I know — friends, family, and money-coaching clients — are struggling with high-interest debt. According to the Federal Reserve, credit card debt was at $1.13 trillion in the fourth quarter of 2023, up $50 billion from the previous quarter.

While I don't have any high-interest debt, a lot of people I know have been saddled with crippling credit card debt.

There might be a lot of reasons you might want to consider debt consolidation, says Alex Ammar, a certified financial planner, investment advisor, and founder of Paradox Wealth, an advice-only, fee-only financial planning firm.

I asked Ammar to learn about the pluses, minuses, and misconceptions of debt consolidation.

Know your debt consolidation options

There are myriad reasons you might be shouldering debt. You might've racked up a high amount of high-interest debt, perhaps by taking out a personal loan or racking up credit card balances. Or perhaps things got out of control by taking out payday loans, which are often seen as predatory because of their staggeringly high interest rates. You might also want to consolidate your debt to simplify your payment situation.

First, you'll want to get your head around the different debt consolidation options.

1. Balance transfer credit cards

One option is to move your credit card debt onto a balance transfer credit card, which usually features a 0% APR introductory rate, which is often from around six to 18 months.

After the introductory period ends, the standard rate kicks in. The goal is to pay off your balance during the introductory period to save on interest rates. While balance transfer credit cards can save you on interest, they come tacked with fees, usually 3% to 5% of the balance amount.

2. Home equity lines of credit

HELOCs require homeowners to offer their homes as collateral to back up the loan. In case they can't make payments, the lender can seize their homes to recover their money.

Besides the risk of potentially losing your home, HELOCs are a bit fraught with danger, because they often have variable interest rates — unless you have a specific arrangement with your institution that's providing the loan, says Ammar. "Usually, they'll only offer the fixed rates on the front end," he says. "If you agree to take out a certain amount, then they'll give you a fixed loan on that HELOC just to start it off, then kick it over to a variable rate."

3. 401(k) loans

You can borrow up to half or $50,000 — whichever is less — from your 401(k) to pay off debt. You need to repay the loan you take out against your 401(k) within five years.

While the interest rate and penalties might be less steep than those of other forms of debt consolidation, choosing this route will set you back on your retirement goals. Plus, as 401(k)s are tied to your job, if you leave your job, you'll be required to pay back the loan in full right away.

Ammar offers the following example: You borrowed the entire $50,000 and have $35,000 left to pay off. When you exit from your employer, that total amount is due.

"Now, what happens if you don't? It's not like the end of the world, but now you have to pay taxes and early withdrawal because it's basically like you pulled money out of a 401(k) prematurely," says Ammar.

4. Work with a debt consolidation company

Debt consolidation companies often charge high fees for something that you can do yourself, which is to contact the credit card companies and ask for a lower interest rate.

Credit card companies might be open to this because they would rather collect than not collect on what you owe them, explains Ammar. But the trade-off is that they're going to close down your credit lines once you've paid off your balance.

"One of the misconceptions that comes up is that people think that this is going to save their credit," he says. "A lot of times, these debt consolidation efforts can be quite detrimental and destructive to your credit."

Debt consolidation can help keep your debt at a manageable level

There are a lot of reasons you might want to pursue debt consolidation. The main advantages of debt consolidation are:

• Lowering your interest rates
• Simplifying your payments 
• Getting your debt to a manageable level

"If you don't have a manageable debt situation, then you're in a hole that you can't dig out of, and it's just going to get worse," says Ammar.

And while compound interest can really be a force for building wealth and preserving wealth over time, it can also really cripple you on the other side, he explains. "When you're talking about people that have accumulated moderate- or high-interest debt, it can snowball."

The downsides and limits of debt consolidation

One downside of debt consolidation is that you have to pay fees, no matter which option. "There are very few consolidation options that come with no consequences," says Ammar. "You have to make a decision, and oftentimes you're between a rock and a hard place. But being buried in debt is just so detrimental that a lot of the times the consequences of debt consolidation seem palatable."

One of the biggest misconceptions about debt consolidation is that it reduces your debt. A lot of times it doesn't — it just moves it into a different bucket. "So from a psychological perspective, it's like, 'OK, great. Now I don't have to pay interest anymore,'" says Ammar. "So you keep spending the way you were spending. But in actuality, all you did was just move your debt into this bucket. You still owe the exact amount of money."

So when exploring options, know that debt consolidation doesn't make your debt load disappear — it typically either can bump down your monthly payment by stretching out your term or lower your interest fees.

Get to the root of your why

Be careful not to hit "pause" to examine how you've found yourself in this situation — carrying a high-interest debt balance — to begin with. "If you don't investigate the underlying cause of your indebtedness, you can easily find yourself in the same situation or worse," says Ammar. "Watch out for digging a new hole."

If your reasons for racking up a lot of debt were purely circumstantial, then you might have less inner work to do, says Ammar. But if it was because of overspending, you might have to learn the basics of budgeting and learn how to be accountable for your decisions.

To stay on top of your credit card spending, consider checking your credit card statements every day and transferring money over every day into a sub-savings account to cover the balance. "While doing that doesn't help you from a credit perspective, it helps you understand the implication of the swipe," says Ammar.

Know your objectives and have a backup plan

When deciding whether to consolidate debt, it's important to understand your goals and which method is best for your situation, says Ammar.

You'll also want to do some introspection on how you got here and whether it was circumstantial or systemic. If it is systemic, asks Ammar, "What are you going to do now before you engage in this effort to work on that before you go and put a Band-Aid on a bullet hole?"

It's a good idea to come up with a backup plan. If you find yourself in a situation where you are racking up more debt, what will you do? Or what if you unexpectedly get laid off and need to pay back your 401(k) loan? "Most of the time, things don't go according to plan," says Ammar. "It's best to be prepared."