Anyone in debt will most likely have thought about taking out a loan for debt consolidation as a potential way to get their finances in order. While these streamlining loans may be genuinely beneficial for some, it’s important to know what you’re getting into before making the move to consolidate.
What is a debt consolidation loan?
Obtaining a debt consolidation loan means transferring the debt from a number of unsecured loans into a single, unsecured loan, or into one secured loan that uses an asset, such as a house, for collateral. Debt consolidation loans may offer lower interest rates than credit cards, so they may seem like an attractive option for those with multiple, high-interest debts.
When should I consider taking out a debt consolidation loan?
A debt consolidation loan may be a tempting option if you have a difficult time organizing multiple bill payments each month. A debt consolidation loan may also be appealing for people who cannot keep on top of bills and loan repayments due to financial reasons. If either of the above applies to you, you should consider the advantages and disadvantages of taking out a loan to consolidate your debts.
What are the advantages?
People may find there are benefits that come with consolidating debts into one single loan.
If the consolidation involves changing unsecured debts into secured debts, you may be able to benefit from lower interest rates. As a result, more of the money you pay goes towards paying down your debt rather than interest. This means the debt may be paid off sooner.
In addition, it can be more convenient to make payments to one company, rather than multiple creditors. Dealing with one simple payment each month may make budgeting easier, allowing you to get on top of your finances.
What are the disadvantages?
Unsecured debt consolidation loans may involve a longer repayment term. So, even if your monthly payment is low, you could actually end up paying more in total interest over the term of the loan. It’s important to check interest rates, fees that may be charged in a loan and the overall cost to borrow the money, before proceeding with a consolidation loan. Getting advice from a non-profit credit counseling agency, like American Financial Solutions, can be a good starting point for those daunted by the numbers.
Also, anyone using collateral, such as a home or car, to secure their debt consolidation loan could find themselves in a very vulnerable position if they have trouble making payments. In this situation, collateral could be seized by the creditor, leaving the person in a worse situation than they were in before taking out the loan.
Another disadvantage to consolidating debt is that when the new loan is taken out and credit card accounts and other loans are paid down to a zero balance, people may be reluctant to close the accounts. They may continue to charge on the credit card accounts and end up with more debt than when they started – the original debt in the consolidation loan and the new charges on credit cards.
Who can take out a debt consolidation loan?
People will typically qualify for an unsecured debt consolidation loan if they have a good credit score. This works to reassure the lender that you can repay the money that has been borrowed, as well cover your other monthly bills and expenses.
Alternatively, as is mentioned above, if you have collateral, such as a home or car, you may be able to get a lower interest rate on your debt consolidation loan by borrowing against those items. Just remember, if you end up in a situation where you cannot pay the debt consolidation loan you may lose the property you used to secure the debt.
What about people with low credit scores?
Debt consolidation loans can be difficult to obtain. Lenders generally do not want to lend money to pay off other debt. If you have a history of late payments to creditors and trouble paying your bills, you probably will not qualify for a debt consolidation loan.
Debt management plans may be a good alternative for people in this position because it is not a loan. Instead, it is a consolidation of debt payments into one payment per month. Debt management plans can be accessed with the assistance of a credit counseling agency.
Debt consolidation loans and debt management plans can help you avoid distressing collection calls from creditors chasing payments.
How do you find the right debt consolidation loan?
First of all it is important to work out exactly how much you need to pay back and how much you can afford to put aside for repayments each month. You’ll also need to establish whether you are able and prepared to secure your debt consolidation loan with collateral.
Research: The next step is to shop around, examine interest rates, company profiles and their customer service backgrounds. You may also choose to negotiate with different companies to try to get the best interest rate for your situation.
Compare: Add up all the monthly payments, interest and charges you’ll have to pay on your existing debts. Then do the same for the best debt consolidation loan you’ve been able to find. Make sure that you will actually be saving money by consolidating your debts with a loan, by ensuring the first figure is greater than the second.
Fine-print: Before signing anything, read through the loan agreement with a fine-tooth comb to make sure you’re aware of all the loan costs you’ll be liable to pay.
How can American Financial Solutions help?
As a non-profit organization, American Financial Solutions offers certified credit counselors, who will help you examine your financial situation and learn more about your options for debt consolidation loans, as well as debt management plans and debt settlement services. All of our services are completely confidential.