It is a process where a person applies for a new low-interest loan to use it to pay old debts. You stand the chance of being qualified for another loan if you maintained a generally good credit score since you last obtained the previous loan. Sometimes, you might just only need to remember to pay up as at when due. It is considered a good way to trim loans and at the same time reduce the amount of money you pay monthly.
People who are dealing with a sizable amount of loans but just want to arrange their numerous multiple bills even though it has different interest rates can go through consolidation. Payments would be paid as at when due, it’s like a DIY solution, Keep reading to know more about it.
Why People Get Loans
First, let’s talk about why people take consolidation loans. They do that for a good number of reasons. One of which is how loans simplify their finances. Rather than having several debts to pay and keep track of, they can concentrate on one.
They get to save money by reducing their interest rate which is possible because the loan pays off the high-interest debts with another lower interest rate consolidation loan.
It would be convenient as you would just be making monthly payments but only if you consolidate at a lower interest rate or negotiate a longer period to repay the loan.
Also, with consolidation loans, debts can be easily cleared off debt. But once again only if you’ve obtained a lower interest rate loan and continue paying up the debt monthly. What this means essentially is that your monthly payment can now pay down your debt since interest is not longing taking a large chunk of the money.
What Is Debt Consolidation?
Debt consolidation and debt settlement are words oftentimes considered synonyms. However, they are not the same thing and have differences between them. Debt settlement is you hiring and paying a debt relief company to negotiate a lesser payment that your creditors would accept rather than paying the full balance. The services of such companies are usually not free; their fees are between 15% and 20% of the debt owed if you’re lucky enough to not fall for a scam.
Consolidation, on the other hand, are you settling your full debt using the money gotten from a new loan. Now, you don’t need an intermediary or pay anyone safe the origination fees or some other administrative fees. Instead, consolidation requires that borrowers take inventory of their debts so they can create a payment plan to clear them less expensively. It can be used to settle your numerous loans from high-interest credit cards to your medical bills or some unsecured debt. Consolidation not only helps you pay up your debt quicker, but it can also reduce the total interest you owe. For residents comparing options in Pennsylvania, Freedom Debt Relief’s debt consolidation options in Pennsylvania can be a helpful resource for understanding local paths forward.
How Does It Work?
When seeking to collect a consolidation loan, the lender may decide to pay off your other debts directly or by giving you the cash so you can pay off your outstanding balances. Likewise, several transfer credit cards have a process they use when consolidating one’s existing cards.
After the pre-existing debts have been settled with this new loan, the borrower now makes a single payment on the new loan every month. It is typical of debt consolidation to reduce the amount of money a borrower owes at the end of the month by extending the period of the consolidated loans. When you’re ridden with debts and don’t know how to manage your money, consolidating loans makes it easier for you to manage your finances.
Look at this example; say you have four outstanding credit cards each with the following balances: $3,400, $2,600, $6,000, and $4,000 respectively. That’s a total of $16,000 across the four cards with an APR (annual percentage rate) between 16-25%. Peradventure your credit scores have improved since your last card application, you might be able to request a balance transfer card with a 0% APR. This way, you’d be able to settle these cards free of interest for a given period. Another option would be to instead apply for a consolidation loan with an APR of 8%, not zero which would be lower than your current rates.
Different Ways You Can Consolidate Your Debt
- Home Equity Loan: It is usually referred to as taking out a second mortgage. So, if you’ve got good equity in your home (which is what you own after subtracting your mortgage from the property’s value), a home equity loan could be an option. It offers you the lowest interest rates when it’s done through a credit union or normal bank.
- Debt Consolidation Loan Via Your Bank or Credit Union: When you’ve got a good credit score and collateral, a consolidation loan could be an option. They provide the best rates just after the home equity loan.
- Debt Consolidation Loan Through a Financial Institution: They don’t have strict lending criteria as with banks. The downside to going through them is that their interest rates can be as high as 47%. An interest rate like that will actually be double the size of your loan and would take like 5 years to pay it off.
- Credit Card Balance Transfer: These offer low-interest rate balance transfers as a method of consolidation loans and the offer can be very attractive. But, it can end up being a trap because if your balance isn’t cleared by the end of the low-interest promotional period, you might have to start paying normal credit card interest rates which are like 20%. With a timeframe of 7 years, this will double your debt.
When you use loan consolidation, it helps you combine multiple debt accounts into one single debt such that you pay one interest rate and monthly payment. You wouldn’t have to settle your bills separately, just pay it into a financial institute or debt management company. The payment should be lower than when you combine the fees together which; way lesser than what you were paying before.
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