Having one debt to pay off is stressful enough as it is. But it’s a much bigger headache if you owe debts to multiple places, as your odds of forgetting a payment will increase, and the varying interest rates between the different debts can end up taking a bite out of your wallet.
If you have multiple debts, such as overdue credit cards you need to pay down, a debt consolidation loan might be able to help you to better keep track of what you owe by getting it all in one place, perhaps even at a lower interest rate.
A debt consolidation loan is a personal loan that can be used to pay off all of your debts, so instead of owing money to multiple sources, you will just have to pay back one lender with a monthly payment.
From there, you can set the terms for your repayment, and try to negotiate for a lower interest rate, which is the money you owe on top of the debt; the lower your interest rate, the lower your overall debt.
“Since personal loans typically come with lower interest rates than credit cards, a debt consolidation loan can lower the cost of your debt — which means you won’t have to pay as much to close your accounts,” says Anna Serio, Finder’s lending expert and certified Commercial Loan Officer. “It also helps you manage your monthly payments by moving them all into one place. And if you have credit card debt, a debt consolidation loan removes the option of only meeting the minimum monthly payment, which can help you stay on track for your goals.”
The debt consolidation loan can pay off two or more loans in a lump sum, and you can arrange to have your new lender pay off your old loans, or you can get the loan sent to your bank account, “leaving it up to you to pay off your creditors yourself” , says Serio.
Scott Nelson is the CEO of MoneyNerd Limited, a financial education company, and he says that a debt consolidation loan could make sense if the debtor “might be making payments towards several different debts each month on various dates and, as a result, keeping up in terms of organization is challenging and they risk missing a payment.”
“Secondly,” Nelson adds, “if the interest on one or more of these debts is unreasonably high and the debtor believes they are undeserving of such a high-interest rate, then applying for a debt consolidation loan could mean accepting a lower interest rate and paying less overall.”
Qualifying for a lower interest rate on your loan is one of the most attractive features of a debt consolidation loan. The exact interest rate you can qualify for depends on factors such as your credit score, the amount you borrow, and the length of the loan. “Some of the best debt consolidation loan interest rates are between 2.9% and 6%”, says Nelson.
Creditors are usually willing to work with debt consolidation companies because they know this way they will get paid, even if they have to lower the interest rates a bit. But not every debt can be consolidated. Typically, credit card companies, payday loans, and even some medical bills can be consolidated. Utility bills typically cannot be consolidated, but if the bill was sent to a debt collector, that debt might be able to be included in a consolidation loan.
Student loans that were secured through a private vendor can, sometimes, be consolidated through a lender. Student loans secured through the Federal Government can’t be consolidated by private lenders, so you would need to look into programs such as Federal Direction Consolidation Loan.
Also, mortgages can’t be included in a debt consolidation loan package, though if you looking to lower your interest rate, consider looking into refinancing your mortgage.
The exact application process will vary by who you choose to go with, but Serio says most lenders will request at least three months of bank statements, as well as recent statements from your creditors. “If you qualify for a debt consolidation loan,” she says, “the lender will typically ask you to request payoff amounts from your creditors for a specific date.”
To qualify for a debt consolidation loan, Serio notes that you will need to have a personal credit score over 670, a regular source of income, and “owe less than half your annual income,” to your debtors, she says. “While different lenders have different credit score criteria, the higher your credit score, the more you’ll benefit from debt consolidation. That’s because you’ll be able to qualify with more providers at lower rates.”
To get the best possible interest rates, compare several different providers to see what you might be able to qualify for, as your options will differ. Companies such as Fiona Debt Consolidation and AmOne can help you shop for multiple lenders at once. Neither company offers loans directly, but Fiona can match you with loan companies that offer up to $100,000, with interest rates between 4.99% to 35.99%, while AmOne can match you with loans up to $50,000, with similar interest rates. Both services are free to use and can help you find loans instantly, though the exact rates you qualify for will vary according to your credit score and the amount you owe.
Before you begin your search, Nelson recommends consulting with a local debt charity for advice, and also suggests that you check your credit report (which you can do for free at AnnualCreditReport.com) to “ensure that your credit file has no errors, mistakes or hindrances on it,” he says, adding “overall you should try to improve your credit score before applying. This will improve your chances of being accepted but it may also improve the interest rate you are quoted.” While a high amount of debt might make it tough to get your credit score up, focus on paying your current bills on time, including making at least the monthly credit card payment.
According to experts, the main benefit of a Debt Consolidation Loan is making your payments easier to keep track of while, hopefully, negotiating a lower interest rate.
-“If you have credit card debt, a debt consolidation loan removes the option of only meeting the minimum monthly payment,” says Serio, “which can help you stay on track for your goals.”
-Potentially save on interest, and thus pay less money overall on what you owe.
-Get out of debt faster.
-“With fewer creditors and payments to track, it’s less stressful and easier to manage your budget,” says Nelson. “Debt consolidation could prevent further missed and late payments and safeguard your credit score.”
-“Even if you can’t qualify for a lower interest rate,” says Serio, “some people find comfort in knowing the date that they’ll finally pay off their debt.”
The main drawback is that “debt consolidation does not change or improve your spending habits,” says Nelson. “If you’re likely to miss payments, overspend or fall short then this solution cannot change that.” So think of it as a fresh start, but you still need to make a change to the way you approach your finances.
-It’s not guaranteed that you will qualify for lower interest rates.
-Some companies will layer on hidden fees or high origination fees.
-“You may not even be accepted for the loan in the first place,” says Nelson, “which could further damage your credit score.”
-“Payments on a debt consolidation loan are generally less flexible than a credit card,” says Serio. “If you miss a monthly payment, you can damage your credit score. The minimum monthly payment on a credit card leaves more room for unexpected financial emergencies.”
If you decide to go with a debt consolidation loan, Serio says you might want to consider signing up autopay to avoid accidentally missing a payment. “Many lenders also offer an autopay discount — usually around 0.25% to 0.5% off of interest,” she says.
If the reason you need to apply for these loans in the first place is that you’ve been having a problem living within your means or keeping track of your spending, keep in mind that debt consolidation loans “aren’t a full solution to a financial problem,” says Serio. “If you sign up for debt consolidation, you may want to also talk to a financial advisor to help come up with a realistic budget.”