With debt becoming a part of our lives, it has become necessary for everyone to have a good knowledge on debt-related issues. And when we talk of debt-related stuff, debt consolidation is the first thing that comes to mind. It involves consolidating several debts into one larger debt.
Why go for debt consolidation?
There could be many reasons for people to go for debt consolidation. While most people want to consolidate debts in order to getter better rates or longer pay back term, there are others that want to consolidate their debts just to make things more manageable (since a single debt is easier to manage than multiple debts and you can easily remember the amounts, monthly payment dates etc.).
Debt consolidation rates – a prime consideration
Debt consolidation rates are indeed the most important consideration when you are looking to consolidate your debts. In any case, if the debt consolidation loan rates are not lesser than the net effective rate across your current debts… then the debt consolidation loan will not make much sense. You might actually end up in deeper debt in such a case. However, you might also want to check such a proposition on the basis of the net monthly payments that you have to make on such a consolidated loan.
So, your monthly payment on the consolidated loan is going to be another deciding factor. If the monthly payment amount on the consolidated loan is higher than the total monthly outgo on your current loans, then it is absolutely useless for you to go for that debt consolidation loan. This is because your prime motive in going for a debt consolidation loan is to make the debts manageable i.e. make it possible for you to meet the monthly payment requirements for your loans.
It is important to note that when you go for longer term loans, you actually end up paying more money as interest (in total, over the years). So, choose the term carefully.
A word of caution
Some financial institutions offer consolidation loans at very low interest rate for the first year or two. In such cases, the monthly installment amount for this initial period is very small. While this might be a good option for people who are expecting some large financial gains during this period or people who are expecting a salary hike, it won’t really be a great option for others. Once this initial period of low debt consolidation interest rates is over, the rates will rise sharply for the remaining term of the consolidated loan… and hence your monthly installment too will rise. So, be careful and do your calculations before you close a debt consolidation loan.
Also, you must take the debt consolidation loan only from a recognized institution. Take the help of your friends and reputed debt counselors to choose a good lender. A good debt counseling agency will also help you choose the best debt consolidation loan based on your current financial situation.
Your debt consolidation options
Based on your financial situation and your credit score, there might be debt consolidation options available to you e.g. if you have multiple credit card debts… you might get them consolidated onto one credit card through balance transfer process. Similarly, you might go for a personal loan or a mortgage top-up loan or a home equity loan in order to consolidate your debts. Since the mortgage loans and home equity loans are secured loans, you get a much lower rate of interest on these as compared to the personal loan or credit card balance transfer.
So, find out the right debt consolidation loan for your situation. Remember that there is no “One size fits all” kind of debt consolidation loan that would suit everybody. And yes, once you have got your debts consolidated, ensure that you make regular monthly payments and limit your expenses in order to avoid falling into a debt trap again.