Consolidate Debt: Explanation and Tips 2020
Debt Consolidation is a strategy to combine multiple loans into a
single loan. It's like refinancing - you get a new loan and use it to pay
off your existing debt.
When you consolidate, you are not really paying off debt. Instead, you
exchange your debt for another loan. You still owe the same amount
as you did before consolidation, but you can get certain benefits from
combining these loans and moving them elsewhere
Example: Let's say you borrow two credit cards. Each card charges
18% per annum and you owe $ 1,500 for each card. To consolidate
your debt, you can get a loan of USD 3,000 to pay off these cards
(ideally, your new loan will have a much lower interest rate).
Why Consolidation?
Simply moving money around does nothing. But there are ways to
consolidate debt and get ahead.
Save money: The best reason for consolidating loans is to save
money, and the easiest way to do this is to borrow at a lower interest
rate. For example, credit cards often charge relatively high interest
rates, making it difficult to pay off your debt. If you take out a loan
with a lower interest rate, you will save on interest costs. This means
that every dollar you invest in your debt will be directed towards
reducing your loan balance (and less of it will evaporate in interest
Simplification: Consolidating multiple loans for a single payment can
also make it easier to stay on top of your payments. You won't save
money by just going to one payment, but if it helps you avoid missing
payments and late payments, go for it. In fact, your required monthly
payment may be higher after consolidation - which is
good.). Ultimately, this should help you pay off your debts faster.
A larger payment (combined with lower interest rates each month)
means you will pay off your debts faster. You won't get anywhere if
you just make the minimum payments on your credit cards.
Is It A Good Idea For Debt Consolidation?
If you can save money and not create additional problems, debt
consolidation is a great idea. The key is to find a loan that really
lowers your interest expenses. Run numbers to make sure you come
out ahead, and don't ignore any fees:
For loan consolidation, try the principal amortization calculator
See How To Find Interest Charges On Credit Cards
Consolidation, like everything in life, is associated with pros and
cons. Watch out for unintended consequences.
Increased costs: if consolidation forces you to take longer to pay off
debt (for example, you want your monthly payments to be low), you
can pay more in interest over the life of your loan. It's hard to go
wrong with a loan term of 3 years or less. is probably much faster than
you will pay credit cards if you stick to the minimum.
Risking Collateral: If you get a loan secured by collateral, you risk
losing this property if you cannot repay the loan as agreed. For
example, if you are using a second mortgage or HELOC, your lender
can take your home in foreclosure if you stop making payments.
Likewise, your vehicle can be refunded if you pledge it as
collateral. Especially when you are already using an unsecured loan
(like a credit card or personal loan), it is risky to put your house or car
on the line.
Loss of Federal Student Loan Benefits: Student loans from
government programs have specific features that can help when times
get tough. For example, you can defer payments during
unemployment or subsidize interest expenses. However, if you
consolidate with a private lender, these features disappear and you
cannot get them back.
Doubling Down: After consolidation, it may feel like you've paid off
your debt (because you will see zero balance on your credit
cards). Again, you've only just transferred your debt, but these cards
will tempt you. If you “re-fill” these cards, you will be required twice as
much as you currently do, so it is important not to return to these
cards after consolidation.
Consolidation and your credit
Debt consolidation shouldn't have a major impact on your
credit. However, this may result in some movement in your credit
scores.
When you apply for a loan, your lender checks your loan, causing the
“request” to hit your credit reports. These requests may lower your
credit scores slightly, but you can minimize the damage by submitting
all of your applications at the same time (or within about 30 days).
Over time, there is a chance that you will actually see your credit
scores improve - if you don’t collect debt again. You will switch from
(possibly maximized) credit card revolving debt to debt repayment,
and making regular payments on these loans can improve your credit.
How debt consolidation works
To consolidate debt, you need to apply for a new loan and use the
proceeds from that loan to pay off existing debts. Shop among various
lenders and different types of lenders, including:
Banks (small local banks are your best bet)
Credit Unions (Learn How Credit Unions Work)
bank lenders
Equal lenders
Consolidation with good credit: If you have good credit, you have
many consolidation options. Any of the above lenders will offer you a
competitive loan. Look for simple loans - you don't have to hunt for
"debt consolidation" loans. Definitely go shopping because some
lenders will be better than others.
Consolidation with bad credit: If you have less perfect credit, you
have fewer options and need to be careful. It is harder to get approval
and the world of debt consolidation is known for its fraudulent
practices. Start with the types of lenders listed above. Some of them
will require you to pledge collateral or use a cosigner, and you will
have to evaluate the advantages and disadvantages of these
strategies. You can also run advertising programs for debt
consolidation companies. What they do offer is a form of debt
management or debt counseling - which isn't always a bad thing. Take
a close look at what they promise, see if you can do it yourself, and
don't pay steep fees if you don't get paid for your money.
