The 3 Key Benefits of Debt Consolidation Loans
Struggling with high debt balances can be daunting – especially if there are numerous different loans that are involved. Auto loans, a home mortgage, and student loan balances may be just some of the creditors that you are liable to pay each month.
But there could be a solution in the form of a debt consolidation loan. Debt consolidation loans essentially take several of your current debt balances and combine them into one single loan with just one monthly payment. And, while these loans will not erase your debt, they can make the repayment much easier and more convenient.
How Debt Consolidation Loans Work
There are several ways to obtain a debt consolidation loan. Such loans can be either secured or unsecured. If you obtain a secured debt consolidation loan, you will be placing an asset such as your home or auto as collateral. Should you default on the loan payment, your lender may be able to repossess your collateral in return for the unpaid loan balance.
Conversely, an unsecured loan will not require any collateral from you. However, while the lender in this case will not have the ability to repossess a tangible item, the interest rates on unsecured loans are typically much higher than the rates on a secured loan.
Debt consolidation loans can usually be obtained through a number of different sources, including:
- Banks, credit unions, and other finance companies
- Mortgage companies
- Credit card companies
When applying for a debt consolidation loan, the lender will typically check your credit score and history of repaying other loans. In addition, the amount of your monthly income will also be verified. This will help the lender to ensure that you have a method of repayment for the loan.
The Advantages of a Debt Consolidation Loan
Debt consolidation loans can offer many benefits. These can include:
- Lower Total Payment Amount – Oftentimes, due to a lower interest rate, longer payment term, or both, the borrower on a debt consolidation loan will have a lower payment amount than they did when paying on several loans individually.
- Convenience – Another key advantage with debt consolidation loans is that they essentially combine several monthly payments into just one. This can make paying down debt much more convenient – as well as less frustrating.
- Tax Deductible Interest – Depending on the type of debt consolidation loan that you obtain, the interest that is paid on the loan may be tax deductible. This would be the case if you opt to take out a second mortgage on your home or obtain a home equity loan for the purpose of paying off your other debt balances.
Are Debt Consolidation Loans a Viable Solution for You?
Before moving forward with a debt consolidation loan, you should first create a monthly budget. Here, you should make a list of all your monthly expenses – including housing, transportation, food, and utilities.
Once you have your expenses listed, you should then compare the total with the amount of net income that is brought in every month. (Net income is the amount of actual income you receive after taxes and other deductions have been factored in.) In comparing how much you earn and spend each month, you will be able to get a more realistic idea of how beneficial a debt consolidation loan may be.
While there are many advantages to debt consolidation loans, it is important to determine whether this type of loan will be the best solution for your particular situation. For example, due to the potentially longer repayment term, borrowers should consider whether this will have an effect on possible future loans such as a home mortgage.
Borrowers will also need to factor in any additional charges or fees that will be due on the debt consolidation loan, as they may hinder the benefit of the lower monthly payment. In this case, a borrower should ensure that the debt consolidation loan will be more cost effective than leaving their debt payments as is.
In this case, add up the total amount that you are currently paying on your loans and then compare the total to the amount that will be due on the debt consolidation loan. If the total amount on the new consolidation loan is more, then it will likely be better to forgo the new loan.
If, however, the new payment – inclusive of additional fees – is less, then it makes sense to pursue the debt consolidation loan and move forward with lower monthly payments in the future.