Let’s be honest: holding large amounts of debt from multiple sources is overwhelming. The thought of repaying the money you owe may make you want to find the nearest hole that you can disappear into (and not come out of anytime soon, thank you very much).
But understand that you can reach your financial goals — and you can achieve freedom from your debt. Plenty of tools exist to help you, and you can choose various options for making this challenge doable.
Taking out a debt consolidation loan is one of those options. Many who are in debt are curious about this path for repaying the money they owe. But navigating available information online poses a challenge of its own, thanks to predatory debt consolidation companies seeking to take advantage of consumers.
You deserve to know about and understand debt consolidation loans from a trustworthy source — which is why we’ve put together this guide to help answer your pressing questions.
Let’s examine what debt consolidation actually is, if you can get lower payments with a debt consolidation loan, and where to go to originate your loan if you choose this tool to help with your debt repayment.
What is Debt Consolidation?
Debt consolidation aims to help individuals who struggle to manage various debts and repayments. A consolidation loan allows you to group all your debts into one.
Your new loan will be just that: completely new. It will have different terms than your original lines of credit and loans, and will probably come from a different lender.
Grouping multiple debts — and their monthly bills — into one place makes repayments a little easier to manage, which can help keep you on the right track to debt freedom. But consolidation offers an even bigger benefit to those in debt: it can help you establish lower monthly payments and lower interest rates.
Here’s what this could look like in real life, from an example pulled from our detailed explanation of how debt consolidation works:
If you have three credit cards with interest rates of 12%, 18%, and 25%, you might be able to consolidate those three accounts into one loan with an interest rate of 10-15% – which would save you money.
So, yes, you can can get lower payments with a debt consolidation loan. You may even score a lower interest rate on those payments. Obviously, this is a big deal. Any money saved on your debt repayment journey benefits your personal finances.
While this makes debt consolidation sound really appealing, this method won’t work well for everyone. It’s not a one-size-fits-all or blanket solution.
When Does Debt Consolidation Make Sense?
Before rushing off to Google where you can sign up for a debt consolidation loan, you need to understand taking out this type of loan won’t help everyone in debt.
Consolidation makes the most sense for the following people:
- Those who struggle to organize multiple bills for multiple debts. If you have more than one or two repayments to make each month and you find you’re constantly paying late fees on a loan or line of credit because the bill got lost in the shuffle, consolidating into a single loan may help you better manage your finances and bills.
- Those with multiple high interest rate debts. Remember, you’re taking out a new loan with new terms. That means you have the opportunity to receive a lower interest rate, which can be a lifesaver to anyone with debts charging high interest rates.
- Those who can’t make the current monthly payment on their debts. You can get lower payments with a debt consolidation loan, which can keep you on track with repayment. But keep in mind that lower payments could result in paying more in interest fees over time — even with a lower interest rate. This is why it’s crucial that you crunch your own numbers to determine if consolidation makes sense for your financial situation.
And don’t forget that consolidating your debts isn’t something that a lender will do for you without payment. Like any new loan, there are fees to originate your debt consolidation loan. Expect to pay origination fees or closing fees and balance transfer fees. Depending on your situation, you may also need to account for an annual fee or an early cancellation fee.
Saying “fees” that many times isn’t meant to scare you off. You need to be aware of the pros and cons of consolidating in order to make an informed choice. Debt consolidation isn’t for everyone, and accounting for the costs of this process is part of determining if it’s right for you.
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Where Should You Apply for a Debt Consolidation Loan?
Here’s where this process can get tricky. Knowing where to go to receive a debt consolidation loan is tricky, because there’s a lot of misinformation out there. So what are your options?
You can receive a debt consolidation loan from:
- a debt consolidation company
- peer to peer lenders
- credit unions or banks
- mortgage lenders (while you wouldn’t take out a new mortgage, you could apply for a HELOC that uses your home as collateral)
Where you originate your loan depends on what source offers you the best scenario. This will vary depending on your debt load, current interest rates, and credit score. Here are some pros and cons of each option:
Debt consolidation companies – or companies that label themselves as such – can sometimes be predatory. That’s why choosing a reputable company to work with requires some time and effort. You need to research your options and beware of disreputable companies or those running scams.
Peer to peer lending offers a relatively new option for those needing to take out new loans. Peer to peer lending companies connect individuals with each other. People looking to invest their money provide the loans to people looking to borrow. A loan originated with peer to peer lending can be advantageous, as the interest rates on the borrowed funds are usually lower than what you could secure at a traditional financial institution.
But, those traditional financial institutions shouldn’t be counted out. Banks and credit unions can help originate debt consolidation loans. This may be a good option if your credit score hasn’t suffered, but interest rates for individuals with bad scores may be too high to justify. It’s worth evaluating your options here, and comparing them to something like peer to peer lending to determine where you’ll come out on top.
Homeowners can take advantage of HELOCs, or home equity lines of credit, to consolidate debts. This option allows you to borrow against the assessed value of your home. A HELOC can offer some flexibility because you can use as little or as much of the available value whenever you need. But that flexibility carries over to the line of credit’s interest rate: it’s not fixed. And remember that note above that mentioned the collateral on this option is your home? That means if you fail to repay what you borrow from your HELOC, the bank can take your property.
Before choosing any lender, gather up some basic information from each that you’re interested in and compare to see which offers you the best option. You’ll want to know how much you can consolidate, what fees you need to pay, the interest rate you’ll receive, what your monthly payments would look like, and other terms of your new loan (like the length of the repayment term).
Debt consolidation makes sense if you need a different repayment plan that existing ones. It can help save you a little money by reducing your interest rates
Choosing this route can help you manage your debts, but don’t think it’s an “easy” solution. You’ll still need to make repayments; your debt won’t simply disappear. You still need an action plan that outlines the steps you’ll take to reach debt freedom. And be sure you don’t continue using the credit cards or else you could wind up with twice the debt! (Cut them up or lock them away in a drawer)
This might include debt consolidation — but it should also include budgeting, tracking spending, reducing expenses, eliminating impulsive or frivolous purchases, living below your means, and looking for ways to increase your income. Consolidation is a helpful tool for some people, but keep in mind it’s only one piece of your whole repayment puzzle.
Image Credit: Viktor Hanacek