Are Debt Consolidation Loans Worth It? Here’s A Breakdown

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You don’t like waking up with the thought of paying back a debt. That’s true. No one does. Living with a depressing debt makes life difficult and nearly impossible to attain financial freedom and have a good retirement plan. Although some people say there’s good and bad debt, we believe that every debt can take a strenuous toll on you. Due to that, some people use debt consolidation loans to get out of debt and live their healthy financial lives. But, is it a good idea to consolidate your debt loans?

Let’s take student loan debts as an example. You can use the student loans to get a good degree so that your earning power can rise. But paying back the student loan debts can be difficult and prolong for many years. You can get a good investment from a house you bought with your borrowed money. 

But it can take you 30 years to pay back the mortgage. So maybe the reason for getting a loan is valid and may have a good outcome. But it can also make your life unbearable in the long run when it’s time to pay back your debt.

You can use several ways to get out of debt, and they depend on your financial situation. But there are two primary ways to get out of any debt, that is:

  1. Reducing your expenditure
  2. Increasing your income

One of the popular ways of decreasing the money used to clear off your debt is through debt consolidation loans.

The Debt On Credit Cards For An Average American

According to the Federal Reserve analysis data carried out by CreditCards.com, the average U.S. citizen has a credit card debt of $5,284. For the people who regularly hold a balance, the number increases to $7,527 for each credit card. It’s better to have fewer loan debts than having higher debt. If you acquire a low balance, it can help you get a high credit score.

So yes, student consolidation loans assist you in clearing your debt. But is it the right approach for you and do you really need it? We’ll break it down in this article. So if you’re ready, let’s get into it.

What Are Debt Consolidation Loans?

If you take out multiple loan debts such as a line of credits, credit cards, student loans, or car loans, you can combine these debts into one payment. Doing so can limit the money which the interest on every single loan debt takes. The debt consolidation loan can also decrease the total interest rate.

Let’s take John, who has several debts, for example. John has $3,000 on his credit card with an interest rate of %12, and $5,000 on his federal student loan with a 10% interest rate. He pays $250 every month for each loan debt. However, the interest rate deducts its portion before it gets to the principal. That is, %12 of 250 and %10 of 250. 

If John can combine the two debts into one, and make the same $500 payments each month, he can clear off his debts quicker.

 Consolidating your loan debts can be one of the best ways to eliminate all your debts. But there’s one thing you should note. If you decide to consolidate your debts, try your possible best to pay off your consolidated loans quickly instead of using the extra money you get from the consolidated loans for other expenses. 

The whole idea is to be financially free rather than taking a decade or more to pay off your debts.

How Does Debt Consolidation Loans Work?

As said before, consolidating your loans helps you to combine your many loans into one so that you can pay them off with a single payment. You can apply for debt consolidation through your credit union, bank, or credit card organization. 

Usually, it’s good to begin from those places if you have a good standing with them. If, for some reason, they turn you down, you can try loan lenders or mortgage companies, preferably the private ones.

Here’s what you need to take into consideration: If you decide to consolidate your debts, your initial loan debt will not get canceled. They will assign your loans to a different loan creditor or another form of a loan. If you want relief from your loan debt or maybe you were not eligible for loans, you can try debt settlement. You can use the debt settlement together with the debt consolidation loan.

The purpose of the debt settlement is to set aside a large sum of money to pay of your debt. Usually, the lump sum of money is lower than the amount of money you owe. So the company, normally third-parties, will have a negotiation with your loan creditor for a settlement. However, settling your debt can negatively affect your credit score.

Types of Debt Consolidation Loans

debt consolidation loans

Generally, there are two types of debt consolidation: secured loans and unsecured loans. Having secured loans means that your assets support your loans. The assets can be your car, house, and other things of significant value. The assets will serve as collateral for your loan debts in case you’re not able to pay back your debts.

In contrast, unsecured loans means having nothing to back the debts you owe. It can be a challenge to consolidate your debts with unsecured loans, and they usually have high-interest rates. You can also find it challenging to acquire qualifying amounts. However, the rates on each type of loan are lower compared to the interest rate on your credit card. In most instances, they have a fixed interest rate, which means the rate will not vary during the time of your repayment.

Advantages Of Debt Consolidation Loans

Consolidating your debt comes with three significant benefits. First, there’s the issue of coming out of debt. In fact, if you have lots of balances on your credit cards, debt settlement should be the last thing to consider. They will deem your credit card balance as settled, which means you’ll pay less than the total amount you originally owe. When you do that, there’s a high chance of debt consolidation loans bad credit.

But, you can save a significant amount of money when you get a low-interest rate. When you acquire a low rate, it means most of your money moves to the principal balance, and not on your interest. In short, it means you’ll clear off your debts quicker than you realize. If the interest rate on your credit card is extremely high, the money saved can be helpful.

 Another advantage is that debt consolidation loans can improve your credit score. If you quickly pay off the part of the principal on your loan, you can make low payments on your interest. Doing that can increase your credit score and make you more eligible for loan lenders in the future.

Finally, it’s simple and less burdensome to make a single payment every month than making two or more monthly payments. It will help you clear off your debt quicker, and not skyrocketing your credit score when you miss a monthly payment. You must also take notice that the Internal Revenue Service (IRS) might give you a tax break. 

If you have unsecured debts, they will not deduct any interest on it. However, they’ll deduct the rate if your loan debt is secured. You typically are eligible for a tax deduction when making monthly payments on your debt consolidation interests.

Disadvantages of Debt Consolidation

You can get a low-interest rate and low monthly payments. But you have to be extra cautious of your payment plan. If it takes too long to make payments, you’ll pay more over the long term.

So if you decide to consolidate your debts, find out the years it will take you to clear off your debts at that current rate from those who issued your credit card. After, compare them with the new loan you’ll acquire to find out if it’s within reason. If it does not, then you might have to find an alternative to get rid of your debt.

Another point to consider is debt consolidation loans bad credit. The reason is in two folds:

  1. If you combine your multiple loan debts into a new loan, you may initially get a bad credit score. The reason is that you usually get a good credit score when you have had debts for a long time and also have a history of consistent on-time payments.
  2. You can increase your debt-to-credit ratio when you close your previous credit accounts and open a new single credit account. The debt-to-credit ratio calculates how much amount of credit you use compared to your available credit.

You can also lose out on interest discounts and other discounts. That’s another disadvantage of debt consolidation. If your school loan is consolidated and gets into default, there’s usually a garnishment of your tax refund, which might even have attached wages.

Final Point

There’s a high chance that your cost may increase. That’s because some services that offer to help you will charge expensive initial fees, together with monthly fees. Be careful of companies that offer to help you get a debt settlement but charge you before they help you. Any company that charges their clients before they help violates the Federal Trade Commission.

However, to avoid that, you can opt to consolidate your debt. You can get a new personal loan from a credit card with a low interest or from your preferred bank that offers that opportunity. 

Is It Good To Consolidate Your Debt?

Student Loan Consolidation

That’s an excellent question to ask. The answer, however, depends on your current financial situation. But to adequately answer the question, we should let you in on the hidden wrong side of debt consolidation that most people don’t realize before it’s late to do anything.

The downside is that Student loan consolidation can trick you into bad financial practices. Usually, people who consolidate their debts get too proud of themselves and their financial status. There’s the good feeling that takes place when you do something about your debt. Most people feel like they’ve made the right call when they decrease the interest they make on their payments. Besides, their debts are simpler to manage than what it was at first.

Since there are low payments now, they can manage their finances and spend the money they save. There’s the ultimate feeling of financial freedom. The reason why a lot of people consolidate their debts is that they spend more than they earn. Instead of decreasing their expenses and creating a solid plan to get out of debt, they worsen their financial circumstance by a lot of spending.

When that happens, debt consolidation will only worsen their financial situation because they build up their balances on their line of credit. When that happens, they have to make payments each month, while repaying their debts. They increase the chance of debt consolidation loans bad credit.

Create A Healthy Budget

If you decide to consolidate your debts, you have to ensure that you spend less than your income. For you to achieve this goal, you need to create a good plan and stick to the budget until you clear off your debt. But, when you get out of the debt, you should make sure not to fall into massive debts again due to excessive spending.

Follow through with the plan so that you can keep your expenses in check. However, if your current financial situation is in good standing and you have a good plan, you can consolidate your debts. You should only use debt consolidation if it helps you.

Other Options To Debt Consolidation

If you don’t like to acquire a new debt to clear off your numerous previous loans, debt management can help you to come out of debt and be financially free. The debt management is a credit counseling program that allows you to pay off your debt within three to five years. There are non-profit credit counseling companies who assist you to go through your budget to decide a monthly repayment plan that you can handle.

After you decide on a payment plan, they work with other credit card organizations to decrease the interest on your debt. They do this so that you can adequately make your monthly payments. When it comes to debt settlement, credit scores do not play a role, so you don’t have to worry about debt consolidation loans.

Remember that the debt settlement is not a loan. Instead, it’s a monthly repayment program that aids you in coming out of debt. There are other alternatives in place of debt consolidations that can also help you get rid of your debt. The following are some of them:

  • Refinancing your credit card
  • Peer-to-peer lending
  • Forgiveness programs through student loans
  • Asking relatives or friends for a loan
  • Bankruptcy Discharge
  • Student loan consolidation

The options listed above can help you get rid of your debt, particularly if you get a professional to assist you. Debt consolidation is not the only means to get out of debt. Use the points explained to decide which one is best for you.

If You’re Stuck, Ask For Help

If you’re still not sure of whether to consolidate or not, you can speak to an expert. A right expert can give you clarity in your decision to help you know what to do. They’ll lay everything for you to know the advantages, disadvantages, and even loopholes to get out of debt. If you need help, we can help. Contact us, and our team will gladly assist you throughout the way.

Conclusion

Debt consolidation loans can give you the low monthly payments and low interests you need to help you come out of debt. But you should consolidate only when you can afford and financially makes sense. Also, before applying for the debt consolidation loan, you should take ample time to research. Make sure you’ve covered every ground. If you don’t like your chances with the debt consolidation, there are numerous ways to get rid of your loans. We recommend getting financial experts to help you decide which alternatives are the best for you. But in all, most people are struggling with debts because of massive spending and poor budgeting. Make sure you create a reasonable budget and stick to less expense. You’ll be out of debt in no time if you get a healthy budget plan.