If you’ve been dealing with credit card debt or other unsecured forms of debt, and times have gotten tough, you may be considering debt consolidation. While this option is indeed a good fit for many, there is no such thing as a one size fits all debt solution. With that said, there are a few things that you should consider when thinking about moving forward with a debt consolidation loan or program.
What Is Debt Consolidation?
Debt consolidation, in its most basic of explanations, is just what it sounds like. It is the consolidation of multiple debts into one single account. However, when you break it down, debt consolidation does much more than turn multiple payments into one. Ultimately, there are two basic types of debt consolidation:
- Debt Consolidation Loan – A debt consolidation loan is exactly as it seems. It is essentially a new loan provided to those with multiple debt accounts for the sole purpose of paying these accounts off and combining them. The goal of this type of loan is to reduce overall interest by combining several high-interest loans into a single, lower-interest loan. Ultimately, this reduces the minimum payment required and creates a fixed payment schedule, not only making it easier on a financial level but an accounting and organizational level.
- Debt Consolidation Program – Those who cannot qualify for a debt consolidation loan, often look to debt consolidation programs. Based on the idea that the borrower is going through a financial hardship, debt consolidation programs differ greatly from loans. With these programs, a debt consolidation company is generally granted power of attorney over your accounts. This means that they make the decisions and payments for you. From there, the company will negotiate a lower interest rate based on your financial hardship and willingness to pay the take a proactive step to ensure that your debts don’t go unpaid. Once lower rates are negotiated, the debt consolidation accepts a single payment encompassing all minimum payments and fees associated with the program, later dispersing the payments to the lenders which hold the accounts.
Benefits Of Debt Consolidation
At the end of the day, several benefits come with debt consolidation, whether it be a loan or a program. Some key benefits include:
- A Single Monthly Payment – Financial management resource DebtConsolidation.com found that the average American owns credit cards owns between 3 and 4 credit cards (3.7 is the exact number). Having several monthly bills to follow can be cumbersome. However, debt consolidation offers the benefit of breaking your debts down to a single monthly payment.
- A Lower Monthly Payment – Another major benefit, especially those dealing with financial hardship, is the fact that debt consolidation will generally lead to a lower overall monthly payment. Ultimately, this allows you to keep more of your hard-earned money.
- A Fixed Payoff Schedule – Whether you go with a debt consolidation loan or a debt consolidation program, you will be placed on a fixed payment schedule. Usually, debts included in these programs, like credit card debts seem to never have an end in sight. Not to mention, the payments on these accounts can fluctuate wildly. With a fixed payment schedule, you’ll not only know how much money your bill will be each month but when you’ll finally stop receiving those bills.
Drawbacks Of Debt Consolidation
While perfection is something we all look for, it very rarely exists, and chances are, it doesn’t exist across any debt relief option. There will always be some drawbacks. In the case of debt consolidation, these drawbacks include:
- Damaged Credit – Often, debt consolidation can lead to damaged credit. This is particularly the case when it comes to debt consolidation programs, not loans. With the changed terms, the closure of revolving accounts, and the various financial hardship programs likely included, borrowers can expect to see a negative impact on credit. If a loan is a route you plan to go, it can actually improve your credit, but it has to be done right. First and foremost, closing your credit cards once paid off will lead to the closure of longest-standing accounts and reductions in available credit. These factors can lead to declines. Therefore, to avoid declines in your credit score when choosing the consolidation loan option, keep your other accounts open and in good standing. Just don’t overuse them!
- Amount Of Assistance – With debt consolidation, only so much assistance can be provided, and it is usually provided through the reduction of interest. However, you’ll still owe the same amount of money, and minimum payments will have a limit as to how much they can be reduced. While they will cause more harm to your credit, if your financial hardship doesn’t allow you to make the minimum payment required with debt consolidation, you may want to consider debt settlement.
The takeaway here is that debt consolidation is indeed a great program for many. However, it’s not the one-size-fits-all solution you may think it is. The truth is that as the borrower, you have many options, and before making any financial decisions, it’s important that you get a good understanding of these options.