How Does Debt Consolidation Work?

What is debt consolidation?

With a debt consolidation loan, you pay off your other debts and make one fixed monthly payment towards the loan.

There are many types of consolidation loans, some of which require collateral, such as your home or car, to secure funds.

What types of debts can be consolidated with a loan?

You can consolidate most unsecured debts, including credit card balances, personal loans, payday loans, outstanding bills and income tax debts.

Instead of juggling five or six payments each month, you make one.

You make a single lower monthly payment with a loan, instead of the many payments you made before, reducing your total monthly payments and freeing up money each month.

Typically, your loan will have a lower interest rate than the combined rate you’re paying on your debts, meaning more of your money goes toward the actual debt instead of just covering the interest.

If your credit cards charge 19% to 22% and you can get a consolidation loan at 10%, you’ll pay off the debt faster because a larger portion of your payment goes toward the principal. As a result, you can pay off your debts sooner.

Keep in mind, consolidation doesn’t reduce your debt. You still owe the same amount under different terms.

Source: Financial Consumer Agency of Canada – Debt Consolidation

In practice, consolidation works well for people who have a stable income, decent credit, and who got into debt through a specific event rather than ongoing overspending.

And remember, consolidation doesn’t erase debt. It just makes it easier to manage.

Why do Canadians need debt consolidation?

Debt consolidation has become more relevant as Canadian household debt has climbed. As of Q3 2025, Canadians owe $1.77 for every dollar of disposable income. Nearly two dollars owed for every one earned. That’s the highest debt-to-income ratio in the G7.

Source: Statistics Canada – National Balance Sheet and Financial Flow Accounts, Q3 2025

Much of this debt is in the form of mortgages, but consumer debt has been climbing as well. Equifax Canada reported consumer debt hit $2.56 trillion at the end of 2024, up 4.6% from the previous year.

Source: Equifax Canada – Q4 2024 Market Pulse Report

A lot of people I see tell me the same story. They managed fine for years, then something changed, whether a mortgage renewal at a higher rate, a job loss, or an illness. When you’re carrying multiple debts at high interest rates, even a small income drop can make the payments unmanageable.

That’s the reality for a growing number of Canadians.

How does the debt consolidation process work?

The debt consolidation process has four main steps. The whole process typically takes several weeks.

Know what you owe. Add up your debts. Every credit card, every loan, every balance. Write down the interest rate on each. Creating a simple budget helps you understand your full financial picture.

Check your credit. Your credit score determines what interest rate you’ll qualify for. Banks typically want a score of 680 or higher for their best rates. You can get your credit report free from Equifax or TransUnion. Many lenders offer pre-qualification checks that don’t affect your score.

Apply for a consolidation loan. Shop around. Banks, credit unions, and online lenders all offer different rates and terms. Compare the total cost, not just the monthly payment. A longer loan term means lower payments but more interest paid overall.

Pay off your debts and stick to the plan. Once approved, use the loan to clear your existing debts. Then make your single monthly payment on time, every time. And stop adding new debt, or you’ll end up worse off than before.

Source: Financial Consumer Agency of Canada – Debt Consolidation

The key is discipline. Consolidation only works if you stop adding new debt.

What types of debt can you consolidate?

Most unsecured debts can be consolidated into a single loan. Consolidating credit card debt is the most common use, but you can also include personal loans, payday loans, utility bills, cell phone balances, retail store cards, and private student loans.

You cannot consolidate secured debts like mortgages or car loans through a standard consolidation loan, though you can sometimes use home equity to pay off other debts separately.

Government student loans are a special case. You could technically include them, but you’d lose access to repayment assistance plans and interest relief. In most situations, keeping federal and provincial student loans separate makes more sense.

If you’re unsure what can be included, ask the lender directly.

What are the main ways to consolidate debt?

There are four common approaches to debt consolidation, each with trade-offs.

Option	Typical interest rate	Best for	Key risk
Personal/consolidation loan	7% to 12% (banks), 14%+ (alternative lenders)	Good credit, unsecured debt	Higher rates if credit is poor
Home equity line of credit (HELOC)	Prime + 0.5%	Homeowners with equity	You could lose your home if you do not pay as agreed
Credit card balance transfer	0% introductory, then 19%+	Small balances you can pay quickly	High rates after promo ends
Debt management program	Interest reduced or eliminated	Those who can’t get a loan	Creditors don’t have to agree

Personal loan or debt consolidation loan

A bank or credit union lends you a lump sum at a fixed rate, and you repay it over one to seven years.

Banks and credit unions typically offer the best interest rates on debt consolidation loans, generally ranging 7%–12% for borrowers with good credit.

Alternative lenders will charge at least 14%, with rates exceeding 30% if your credit is poor. They may also charge some additional setup fees.

Depending on your lender, interest rates can be fixed or variable. Fixed-rate loans mean the interest rate will stay the same throughout your loan term. Variable rates can change at any time, resulting in higher or lower loan payments.

Home equity line of credit (HELOC)

A Home Equity Line of Credit is a revolving line of credit secured by your home’s equity. In Canada, you can borrow up to 65% of your home’s appraised value as a line of credit.

Typically, it has lower interest rates than other loans and has no fixed repayment amounts. Instead, you pay interest on the money you use.

To qualify for an existing mortgage, you need at least 20% home equity and a good credit score. Your total mortgage and HELOC can’t exceed 80% of your home’s value. You’ll also need a regular income and a manageable debt load.

Source: Financial Consumer Agency of Canada – Home Equity Lines of Credit

Rates typically start around prime plus 0.5%, far lower than credit card rates, but there’s risk involved. If you can’t make the payments, you could lose your home.

I’ve seen people consolidate debt into a home equity loan, then run up their credit card balances again, and end up in deeper trouble than when they started.

Credit card balance transfer

If you’re looking to consolidate your credit card debt, one common tactic is to arrange a balance transfer, where you move the balance from a card with a high interest rate to one with a lower rate.

If you decide to use a credit card to consolidate your debts, establish whether the interest rate is a promotional offer for a limited period or a fixed rate. This will affect how long you have to make payments to reduce the debt.

Some cards offer 0% or low interest for an introductory period, usually 6 to 18 months. Watch for balance transfer fees, which typically range from 3% to 5% of the transferred amount.

If you don’t pay off their balance on time, the higher rate kicks in, often 19% or more. This option works best for smaller balances you’re confident you can clear quickly.

Debt management plan

If other debt consolidation options don’t work for you, you might want to consider a debt management plan.

A debt management plan is an informal debt solution that helps you consolidate your debts with assistance from a credit counselling agency.

It allows you to consolidate all your payments into a single monthly payment. This solution is most commonly used for credit card debt.

Unlike other debt consolidation options, you’ll work with a credit counsellor, who will likely attempt to negotiate an interest-free period or interest rate reduction.

This isn’t technically a loan, and creditors don’t have to agree. You’ll also need to stop opening new credit accounts while the plan is in place.

What credit score do you need for a debt consolidation loan?

Most banks want a credit score of 680 or higher for a consolidation loan at a competitive rate.

Lenders also look at your debt-to-income ratio. If your debt payments exceed 40% of your income, most lenders will decline your application or offer unfavourable terms.

If your score is in the 600s, you can still qualify through a credit union or alternative lender, but expect rates starting at 14% and climbing from there.

Finance companies can charge up to 30% or more for unsecured loans. At those rates, if your consolidation loan rate isn’t meaningfully lower than what you’re already paying, consolidation doesn’t help.

Source: Credit Counselling Society – Debt Consolidation Loan Options

If your score is below 600, most consolidation options are no longer available. If you have accounts in collections, approval becomes even harder.

What if you don’t qualify for debt consolidation?

If your debts exceed half your income, consolidation probably won’t solve the problem. A lower interest rate doesn’t help if the payments are still unaffordable.

A consumer proposal is a legally binding agreement between you and your creditors, administered by a Licensed Insolvency Trustee.

You agree to pay back a portion of what you owe, usually over five years, and your creditors agree to forgive the rest. It also stops all creditor action, such as collection calls and wage garnishment.

Unlike debt consolidation, which only reduces the interest rate, a consumer proposal often reduces the total debt.

If you’re unsure which route makes sense for you, talk to a Licensed Insolvency Trustee.

Frequently asked questions

Does debt consolidation hurt your credit score?

While a debt consolidation loan can help your finances in the long term, it may lower your credit score temporarily. A lender will perform a credit check, which is recorded on your credit report. Also, opening a new credit account lowers your average account age.

Can you consolidate debt with bad credit?

You can, but your options are limited, and the interest rates are higher. Some credit unions and online lenders work with lower credit scores, though rates often start at 20% or more.

If you cannot qualify independently, you could ask someone to co-sign your consolidation loan. A co-signer can be anyone with good credit who is willing to guarantee your loan.

Can you get a debt consolidation loan with a co-signer?

Yes. If you can’t qualify on your own, a co-signer with good credit can help you get approved. Keep in mind that if you miss payments, your co-signer becomes responsible for the debt.

What’s the difference between debt consolidation and a consumer proposal?

Debt consolidation involves taking out new loans to pay off existing debts, keeping the total amount owed the same but under different terms. A consumer proposal reduces the owed amount by paying a portion and forgiving the rest. Debt consolidation requires good credit, but a consumer proposal doesn’t.

Can you include CRA debt in debt consolidation?

You can use a consolidation loan to pay off CRA debt, but the loan itself won’t stop CRA collection actions. The CRA has collection powers that ordinary creditors don’t have, including the ability to garnish wages and freeze accounts without a court order.

If CRA is actively pursuing you, a consumer proposal or bankruptcy may be the only way to get legal protection.

Is debt consolidation worth it?

If you can secure a lower interest rate than you’re currently paying and have the discipline to stop adding new debt, consolidation is worth it. If you’re just extending payments without changing habits, you’ll end up paying more in the long run.

Talk to a Licensed Insolvency Trustee

Debt consolidation won’t fix your problems if you cannot afford the debt, even at a reduced interest rate.

If you’re unsure whether consolidation makes sense for your situation, talk to a Licensed Insolvency Trustee. We help Canadians across Alberta, Ontario, British Columbia and beyond resolve their debt problems.

You’ll get a clear picture of what’s realistic, whether that’s consolidation, a consumer proposal, or another path entirely.