Pros and cons of debt consolidation

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US consumer debt reached $ 14.35 trillion, including mortgages, car loans, credit cards and student loans, according to data Federal Reserve System of New York… Some Americans are unable to manage their thousands of dollars in debt, forcing them to look for other options rather than trying to get rid of the ever-growing mountain.

Debt consolidation is one such option. Debt Consolidation Loans are used to pay off multiple credit cards and combine those monthly payments into one, usually with a lower interest rate. While this sounds like the perfect solution, debt consolidation has its pros and cons.

What is Debt Consolidation?

Debt Consolidation is the process of combining two or more debts into one larger debt. This step is often taken by consumers burdened with large amounts of high-interest debt.

“It is often used to combine credit card debt, car loans, student loans, medical debts, or other types of loans into a new loan,” said Katy Ross, education and development manager for American Consumer Credit Counseling. “Then the borrower only has to pay one monthly payment instead of a separate payment for each debt.”

In addition to simplifying your finances, debt consolidation ideally allows you to obtain better loan terms, such as a more competitive interest rate.

Why should I be interested in this?

Debt consolidation offers several potential benefits. This step allows you to consolidate multiple debts into one monthly payment, simplifying your finances and making your life easier. Consolidation can also lead to lower interest rates on your debt, which will have long-term benefits.

“If interest rates are lowered and the consumer pays back the debt in the same or less time than they could have done before consolidation, they will save money,” says Michael Sullivan, personal financial advisor at Take Charge America.

Debt consolidation is generally a good idea for people with a good credit rating, as a good credit rating will allow you to qualify for the most competitive interest rates on combined debt.

5 Key Benefits of Debt Consolidation

Debt consolidation is often the best way to get out of debt. Here are some of the main benefits.

1. Pay off debt earlier

Taking out debt consolidation loan can help you achieve full repayment faster, especially if you have significant credit card debt. Credit cards do not have a deadline for full balance payments. On the other hand, a consolidated loan provides for fixed monthly payments with a clear beginning and end of the loan.

Pick up: Paying off debt faster means you can pay less interest overall. In addition, the sooner your debt is paid off, the sooner you can start investing more money for other purposes, such as creating an emergency fund or a retirement fund.

2. Simplify your finances

When you consolidate debt, you no longer need to worry about multiple maturities each month because you only have one payment. Plus, the same amount is paid every month, so you know exactly how much money to set aside.

Pick up: Debt consolidation can turn two or three payments into one payment. This can simplify budgeting and reduce the likelihood of missing payments.

3. Decrease in interest rates.

IN average interest rate on a credit card is about 16.03 percent. Meanwhile, personal loans usually averaging about 11.88 percent. Of course, rates vary depending on your credit rating, loan amount, and the length of the term, but you will likely get a lower interest rate with a debt consolidation loan than what you currently pay with your credit card.

Pick up: Debt consolidation loans for consumers with a good credit history usually have significantly lower interest rates than the average credit card.

4. Have a fixed repayment schedule.

Use a personal loan to pay off your debt, and you will know exactly how much to pay each month and when your last payment will be. Make just the bare minimum with a high-interest credit card and it can take years before you pay it back in full.

Pick up: With a fixed repayment schedule, your payment and interest rate remain the same throughout the life of the loan, and there are no unexpected fluctuations in the monthly payment of the debt.

5. Increase your credit

Although a debt consolidation loan may initially lower your credit score slightly as you have to go through a serious loan request, a debt consolidation loan can help. improve it over timebecause you are more likely to make timely payments. Your payment history is 35 percent of your credit ratingso paying one monthly bill on time should boost your bottom line significantly.

Plus, if any of your old debt was credit card related and you keep your cards open, you will have both a better credit utilization rate and a stronger credit history. The amount owed is 30 percent of your credit rating, and the length of your credit history is 15 percent. These two categories can lower your score if you choose to close your cards after they have been paid out. Keep them open to improve your credit score.

Pick up: Debt consolidation can ultimately improve your credit rating, especially if you make timely loan payments, as payment history is the most important factor in calculating your rating.

3 main disadvantages of debt consolidation

Debt consolidation also has some disadvantages that should be considered before taking out a loan.

1. He will not solve financial problems on his own.

Debt consolidation does not guarantee that you will no longer run into debt. If you have a life story beyond your means, you can do it again when you feel free of debt. To avoid this, create a realistic budget and stick to it. You should also start creating an emergency fund that you can use to pay for financial surprises so you don’t have to rely on credit cards.

“When considering consolidation, it is very important to identify what caused the debt in the first place and adjust budget and spending habits to prevent a repeat of the situation,” says Bossler.

Pick up: Consolidation can help pay off debt, but it will not eliminate the financial habits that got you in trouble in the first place, such as overspending or not being able to save money for emergencies. You can prevent more debt from accumulating by laying the foundation for better financial behavior.

2. Some upfront payments may be required.

Some debt consolidation loans come with a commission. They can include:

  • Loan disbursement fee.
  • Balance transfer commission.
  • Closing costs.
  • Annual fees.

Before taking out a debt consolidation loan, ask about all fees without exception, including those for late and early repayment.

Pick up: Do you carefully research and read the fine print when considering debt consolidation plans to make sure you understand the full cost of the loan in question.

3. You can pay a higher rate.

It is possible that your debt consolidation loan will have a higher rate than the one you are currently paying. This could have happened for a variety of reasons, including your current credit rating.

“Consumers consolidating debt receive an interest rate based on their credit rating. The more difficult the consumer is, the higher the cost of the loan, ”says Sullivan.

Additional reasons why you can pay more interest include the loan amount and the loan term. When you extend your loan, your monthly payment may be lower, but you may end up paying more interest in the long run.

When considering debt consolidation, weigh your immediate needs against long-term goals to find the best personal solution.

Pick up: Consolidation does not always lead to a lower interest rate on your debt, especially if your credit rating below ideal

Final considerations

Before signing up for a debt consolidation proposal, review all of your current minimum monthly payments and expected time frame to pay off debt and compare this with the time and costs associated with a consolidation plan. If you want to know how a debt consolidation loan can affect your finances, you can always use debt consolidation calculator

And remember, when considering consolidation, it is important to take the time to reflect on what caused the mountain of debt in the first place and address those root issues. Consolidation may seem like an immediate relief, but it may not ultimately solve the problem if there are issues such as budget overruns or deficits that remain unresolved.

The essence

Debt consolidation is a good option for people who need to simplify their monthly budget, or those with good credit history and who can qualify for a low interest rate. However, if you are interested in debt consolidation, also make sure you have a plan for repaying the new loan and avoid accumulating new debt in the process.

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