Debt Consolidation: most asked questions
Debt consolidation or a consolidation loan is a process consumers can use to combine their loans and liabilities into one loan. This means that instead of paying several separate bills each month, you get a loan with a bank, credit union or other financial institution to get a payment that is smaller than the total of the prior payments.
This payment is smaller because the debt can be paid over a longer period of time, and/or the interest is lower. Another advantage is to get a fixed rate loan if some of your debts have fluctuating rates.
How do I start?
Make a list of what debts you have. Include the balance owed, the monthly payment and the interest you are paying on each account and how many payments are left for each bill. This way you will know where to start. You’ll have an idea of how much money you need and at what rate it needs to be to save you money.
Depending on how much money you need, you will be able to decide if the loan can be an unsecured loan – usually limited to $5000, or if you need above this number you will probably need a secured loan. A secured loan might include tying the loan to refinancing your house or taking a second mortgage.
Securing the loan with some collateral should allow you to get a lower interest rate than you would get with an unsecured or personal loan. You get a lower rate because the lender can take the asset from you and sell it to get their money back if you don’t default on the loan.
Now that you know what you need, pull your credit report and make sure the things that are on it are correct and that everything is yours. Then go to one of the debt consolidation sites and see what types of loans and interest rates are possible. Talk to your bank and compare what their options are.
Is consolidating my debts a good idea?
Every person’s situation is different. Go back to your list. Look at how long you have left for these loans and what the interest rate is. Loan consolidation can be very advantageous if you have several small loans with higher interest rates. For instance the balance on your credit cards runs to several thousand dollars and the interest is in double digits.
If you roll it into a home mortgage, you might be able to cut the interest rates in half. The downside is you pay that interest on the balance for fifteen or more years, depending on the term of the mortgage. There are websites out there that have calculators for figuring out the cost of debt if you owe X with Y% interest and have Z years left to pay. Figure this out for each of your debts and total that number.
Then take the new amount you need to borrow to cover all these loans, what you think your interest rate might be, and the term. If you are including this as a refinanced mortgage, the term would be the length of your mortgage. What is the total?
One of the great calculators out there is the one on www.moneycentral.msn.com. The ‘consolidate your debt time frame calculator’ can help you play with the options and make an educated decision.
What is the biggest danger for Debt Consolidation?
Getting the debt consolidation loan and using it on something other than paying off the debts you got the loan for. It is important that if you get a loan to pay off smaller loans that you actually take the money and pay off all those loans. You might be tempted to keep some of it and use it for something else. If you spend the money somewhere else, you’ll end up with the old loan payment, and a new one.
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