Consolidation loans are one of many debt solutions. The concept behind debt consolidation loans is combining multiple outstanding debts into one, easy to manage and more affordable loan.
What You Need to Know About Debt Consolidation Loans
Debt consolidation loans are one of many debt solutions. The concept behind debt consolidation loans is combining multiple outstanding debts into one, easy to manage and more affordable loan. Debt is not something you want to drag around with you, debt consolidation loans are one way to better your financial situation and find a way out of debt.
If you have debt weighing you down or are simply curious to learn more about personal finance, you’ve come to the right place! In this article, we will explore what a debt consolidation loan is, the affiliated pros and cons, what to consider when shopping and how to apply for a debt consolidation loan.
What are Debt Consolidation Loans?
Debt consolidation loans are large loans that combine all your outstanding debt. To break it down further, a borrower with many different types of outstanding debt takes out a big loan to pay off the existing debt. After the debt is paid off, the borrower makes payments towards the debt consolidation loan, as opposed to the various smaller debts. The idea is that the borrower will have less debt to manage with a debt consolidation loan.
Advantages & Disadvantages
Debt consolidation loans are one solution to handling debt. To fully understand the debt solution option, it is important to understand the respective advantages and disadvantages. Let’s explore them in depth below.
- Low Interest Rate. Debt consolidation loans tend to have lower interest rates than other types of debt, such as credit cards. This means your debt will typically cost you less when you consolidate your owed amounts. Debt consolidation loans tend to have less fees and additional charges too.
- Quicker Repayment. It all depends on your term and interest rate, but most find that a debt consolidation loan helped them get out of debt faster. This sensation may also be attributable to the fact that you’re focusing on one debt, not many.
- Manage One Payment, Not Many. Debt comes with a lot of stress, one of which is managing various debts with varying payments. With a debt consolidation loan, all your debt is in one place and you only need to worry about one payment.
- Builds Credit. Any form of financing that requires regular, full payments from the borrower will help build credit. Consolidation loans are no exception.
- Collateral an Option. Since debt consolidation loans are essentially personal loans, they can be secured or unsecured with collateral. This is an excellent option to have because you can use the collateral to secure a lower interest rate or negotiate better terms.
- Spending Temptation. With credit cards and other similar types of debt freshly paid off, it can be challenging to resist the urge to spend. A debt consolidation loan helps you get out of debt, but you need to focus on your spending habit improvements too.
- Consolidates, Does Not Eliminate. Debt consolidation loans consolidate debt, the loan does not eliminate debt. The same amount is owed and the borrower needs to handle the consolidation loan responsibly.
- Lack of Promotions. Some debt solutions offer introductory 0% interest or other similar perks to attract customers. Sadly, debt consolidation loans don’t typically have this type of promotional offer.
- Risk of Repayment Plan Failing. Managing debt is difficult, it requires responsibility and patience. If at any point the borrower has a setback, it can cause a slip back into a vicious debt cycle.
Questions to Ask When Looking for Debt Consolidation Loans
The whole point of using a debt consolidation loan is to get a lower interest rate and generally more favourable terms than what you are already subject to with your debt. For this reason, you need to remain vigilant when shopping to snag a real deal. Below are a series of questions to ask yourself and lenders when shopping to get the best deal.
- Do I meet the lender’s minimum requirements?
- Will the debt consolidation loan in question really get me into an improved financial situation?
- How long is the repayment period and when will I be debt free?
- What is the state of my credit score and report?
- What is the interest rate and can it be negotiated?
- What other applicable fees are there?
- Do I have an asset to use as collateral for the loan?
- What monthly payment can I realistically afford?
- Have I considered other debt solutions that might suit my financial situation better?
How to Get a Debt Consolidation Loan
The process of obtaining a debt consolidation loan is quite simple. First, you need to determine how much money you need to cover your outstanding debts. This includes principal balances, fees and interest. Second, you apply for a personal loan with a bank, credit union or alternative, online lender. When the application asks for your loan purpose, select debt consolidation. Finally, after you’re approved for the loan, use the funds to pay off your outstanding debt. Once that’s done, all you need to worry about is paying of the debt consolidation loan with one regular monthly payment.
Other Debt Solutions to Consider
- Sometimes all people need to manage their debt is professional guidance from a counselor. Usually they will provide you with information on how to budget and generally manage finances.
- Debt Settlement. A debt settlement program involves negotiating with lenders to pay a lower amount that is considered to be a full payment. The idea is that lenders want to recover some of the debt as opposed to none.
- Debt Management Program (DMP). This is a service provided by a credit counseling agency. The service creates a simplified payment plan for debts with lower interest rates.
- Balance Transfer Cards. Similar to a debt consolidation loan, a balance transfer card combines outstanding debts. However, instead of using a loan, the funds are transferred to a credit card. The card usually has an introductory period with no interest, but once the period ends, full interest kicks in on the outstanding balance.
- Consumer Proposal. One of the more severe debt solutions, a consumer proposal is a legal process that involves paying a portion of your outstanding debt. The portion of debt you pay is decided through a negotiating process with lenders and a Licensed Insolvency Trustee (LIT).
- Also a legal process, a bankruptcy involves working with a Licensed Insolvency Trustee (LIT) to free the individual of their debt. Bankruptcies are the most severe debt solution available and should be considered as a last resort.
To Consolidate or Not to Consolidate
Now that you learned everything you need to know about debt consolidation loans, the question becomes: do I consolidate, or do I not consolidate? The decision to use a debt consolidation loan product has a lot to do with your own financial situation. The first thing you should consider is whether or not a debt consolidation loan is the best debt solution for your unique needs. After that, be sure to consider your financial goals and current situation.
One more thing to note, debt consolidation loans can be somewhat of a trap if you don’t take the time to develop better spending habits. Debt consolidation loans are a tool to get out of debt, but they won’t do the hard work for you. Knowing that can help you stay motivated for the long run and realize that you will need to work on your financial habits.
Regardless of whether you use a debt consolidation loan or not, the road to a debt free life is always worth it!