What Are the Pros and Cons of Debt Consolidation Loans?

Debt is an unfortunate part of contemporary culture. For the vast majority, income is not sufficient so they are forced to rely on debt to fund the bare necessities.

In fact, the average Brit carries more than £9,000 in debt. This figure includes credit cards, personal loans, and other forms of financing. Once you add in mortgages, it is easy to see how the average person is swamped by debt.

The good news is that debt consolidation can help improve your financial condition. Read on to learn about the advantages of debt consolidation loans. Explore topics such as paying off credit card debt and more details about debt settlement.

What Is a Debt Settlement?

Debt settlement is also referred to as a relief program or an adjustment. This is one method for reducing your overall debt.

Here, creditors are willing to take a lump-sum payment for only a portion of your outstanding balance. The thought process for them is receiving something is better than nothing.

Creditors are not legally required to relieve any of your debt. However, you can acquire more negotiation leverage by halting monthly minimum payments on your loans. This means incurring late fees, additional interest charges, and a diminished credit report.  

This approach comes with considerable risk. You are at risk of being sued the more time that passes without a resolution to your debt.

Your credit report indicates that debt was partially paid. This means future creditors are aware that you settled the debt. This negative mark stays on your credit report for up to six years.

This is a good approach for a person who has suddenly come into a large sum of money. With a lump-sum payment, you can get the creditor to agree to waive a portion of the debt.

What Are Debt Consolidation Loans?

Consolidating your debt is another way to get back on track. This is the lender folds in multiple different accounts into one new loan package. The new loan has its own financing terms and conditions.

Your debt consolidation loan is going to have a new period of time to repay the balance in. Also, there will be an Annual Percentage Rate (APR) that determines how much you pay in interest each month. This APR may be fixed or variable depending on the type of loan that you choose.

Debt consolidation loans are also considered secured or unsecured. A secured loan requires the borrower to put up an asset as collateral.

For instance, many people use their home as an asset to receive approval for a secured loan. If you default on the loan, your home is at risk of being seized.

Unsecured loans do not require the borrower to put up as an asset as collateral. However, the loan amount is generally smaller as a result.

What Are the Advantages of Debt Consolidation Loans?

There are many advantages of applying for a debt consolidation loan. For starters, you can lower your monthly payment by consolidating debt. This is possible by extending the loan term.

Consider that you have two existing personal loans that have three years remaining on them. You can consolidate them into one loan with a 5-year loan term. This spreads the balance out over 60 months instead of 36, naturally resulting in a lower monthly payment.

Also, you can lower the monthly payment by securing a lower APR. Some loans are known to have high-interest rates like student loans. If you can secure a lower APR on the consolidated loan, you will spend less on interest charges each month.

Consolidated loans are easier to manage as well. It is not easy to juggle multiple different credit cards, personal loans, and other types of financing. With multiple accounts, you have due dates spread out throughout the month.

This makes it difficult to know if you have enough to pay the minimum. You may need to wait until payday to submit payment.

A consolidated loan takes out the uncertainty and makes it easier to manage. Instead, you have a single payment due each month.

You can contact the lender and ask that the due date be placed after your payday. This guarantees that you have money in the account to pay it.

This simplicity allows you to focus on restoring your credit score. When you miss a payment due to oversight or lack of funds, it diminishes your credit score. With just one payment to make each month, you can make on-time payments that improve your credit score over time.

What Are the Disadvantages?

Consolidating loans often reduce payments by extending the loan term. This way, the debt is paid off over a longer period of time. The cost savings to the borrower are then nominal.

Unsecured consolidation loans are normally capped at £25,000 per person, meaning that if you owe more than £25,000 you would need to find an alternative way to repay the rest.

Another disadvantage is that your interest rate may go up, resulting in paying back much more than you initially borrowed. Interest rates depend on market factors and there is no guarantee you will secure a lower rate when consolidating debt. You may also need to put up your house as collateral in a secured loan.

Lastly, opening up a new account may damage your credit score. Age of credit is a significant part of your credit score calculation. Opening a new account is a potential warning sign to creditors that you are not a long-term customer.

Is There an Alternative?

Individual Voluntary Agreements (IVAs) are a good alternative to consolidating debt. Here, your creditors agree to help you pay down debt at a more affordable rate.  With an IVA you can write off up to 85% of unaffordable debts, stop creditor harassment and letters and protect your assets. Unlike with consolidation loans, there are no limits to the amount of unsecured debt that an IVA can write off, even for debts over £25,000.

An IVA also has some degree of flexibility if any payment problems occur or your personal circumstances change. A payment break can be given by the Insolvency Practitioner, if deemed necessary, or they could reduce your IVA payments by 15% without the need for creditor approval.

Your Guide to Debt Consolidation Loans

Consolidated loans have advantages and disadvantages. Among the disadvantages is the fact that you may have to put up collateral. On the other hand, IVAs do not impose this requirement.

If you are looking at debt consolidation loans and think IVAs are the better option, contact us today to speak with a specialist. 

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Customers can get free debt advice from the Money Advice Service – an organisation set up by the Government to offer free and impartial advice to those in debt. For more information from the Money Advice Service visit www.moneyadviceservice.org.uk. MAS is part of the Money & Pensions Service. We are not affiliated with MAS in any way.

Become Debt Free is a trading style of Re10 (Finance) Limited Registered Number 04651137.  Data Protection Act Registration Number – Z8613095

Become Debt Free specialise in providing and administering Individual Voluntary Arrangement (“IVA”) solutions to individuals based in England, Wales and Northern Ireland.  We do not administer Debt Management Plans, Debt Relief Orders, or any other debt solutions.  We only provide advice after completing or receiving an initial fact find where the individual(s) concerned meets the criteria for an IVA, therefore, all advice is given in reasonable contemplation of an insolvency appointment.

* To qualify for debt write off in an IVA with us, you must have a minimum of £7,000 of qualifying unsecured debt owed to two or more creditors.  The amount of debt write off is based on your own personal circumstances – typically this could be up to 85% of what you owe; and this has been achieved by over 10% of our customers who have successfully completed their IVA’s in the last 12 months.  The amount of debt write off differs for each customer and is dependent upon their individual financial circumstances and subject to the approval of their creditors.

Andrew Bowers is authorised in the UK to act as Insolvency Practitioner by the Insolvency Practitioners Association.

 

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