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Things to keep in mind if you're looking to consolidate debt

What to know if you're looking to consolidate debt

By Rebecca WPublished about a year ago 5 min read
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Perhaps you've been owing debts from different lenders you need to settle, but you are finding it hard to know which of the debt to pay first.

As the interests on every one of your debts compound to the burden of paying the actual original amount borrowed, you begin to get worried, mentally choked, and start looking over your shoulder for the right means to pay your debt swiftly with less pressure.

Thus, if you find yourself in this financial situation, the next step is to find the right solution.

In your quest to settle your debts quickly, you must have heard about the term debt consolidation either as a suggestion from a family member, friend, or some financial experts. Then at that moment, you start thinking if that is the right solution for you.

It is not uncommon to find some financial terms technical, especially if you are finding yourself in such a situation for the first time. But don't sweat it. You're at the right place to understand the whole concept of debt consolidation, whether you are looking to consolidate your debt or to equip yourself for financial and academic purposes.

Understanding Debt Consolidation

Over the years, one of the main strategies to manage debt is to consolidate debt. For some reason, this has always been considered an effective means of getting hold of your financial situation and eventually settling your debt.

Debt Consolidation is one of the many debt financing or management techniques. It involves individuals with series of debts from different lenders or sources to get a huge loan to cover all the debt he is owing.

For instance, this generally means you are using a single debt to pay off multiple debts, with the hope of you concentrating on the payments of that one single debt.

Debt consolidation comes in different methods. In some cases, some lenders offer to settle all your multiple debts on your behalf, while others give you the money, and you pay off your debts by yourself.

Whatever works for you, there are still other important aspects of debt consolidation you need to know, and here they are:

Types of Debt Consolidation

Technically, there are two types of debt consolidation. Each of the types has its peculiar features, including the pros and cons. You need to understand your situation before picking the right one for yourself. Take a look.

Secured Debt Consolidation

This is often the most common or popular type of debt consolidation. Just like your normal banking loans, you get money from your new lender to pay off your multiple debts, however, you will have to drop something as collateral against the loan.

Your collateral is usually a price asset, a property that is worth or closer to the value of the new loan. In most cases, this arrangement leads to lower interest rates for your new loan.

But don't get too comfortable, as there is always a bigger risk of forfeiting your collateral if you failed to meet up with the periodic payments of your new loan. Depending on your financial analysis, this may be the best option for you, or otherwise.

Unsecured Debt Consolidation

Unsecured debt consolidation means there is no security for the lenders to recoup their money if a borrower fails to pay his debt. Though this is not always true, as a borrower is still legally binding to the payment of such debt.

In clear terms, what this simply means is that as a borrower you won't need to present collateral as a security against the loan you are getting to pay off your multiple debts. However, the disadvantage of this method is that the interest rates are usually higher than the normal loan rates. Hence, you pay more than if it is secured debt consolidation.

While the decision to pick a secured debt consolidation or unsecured debt consolidation depends on your financial situation, both of them offer multiple benefits in financing your debts. Some of them include the following:

Benefits of Debt Consolidation

Simplify Debt Financing

Getting a debt consolidation implies that you will be repaying your debt to a single lender rather than multiple lenders. Usually, having to pay multiple lenders can be confusing, as each lender has different periodic deadlines and varying interest rates. However, with a single lender, you can be focused, and fully concentrate on the exact debt you are paying for. Not only that, having a single lender improves your likelihood of not missing your debt payments.

Hasten your Debt Payment

In most cases, the interest rates on a single loan are usually lesser than the combined interest rates on multiple loans. Hence, with lesser interest rates, you can easily pay off your debt faster than when you are paying multiple loans. Also, there is a chance of negotiating your loan payments period, which you may agree to be faster, so you can live a debt-free lifestyle. Note that the lower your loan payment period, the higher you pay periodically, and vice versa.

Reduce Debt Interest Rates

Another advantage of debt consolidation is the tendency of getting lower interest rates on your debt. Aside from the fact that the interest rates on your new loan are expected to be lower than the interest rates of the combined multiple debts, you can as well negotiate for lower interest rates. To be in a better position to negotiate your way, try to consider more than one lender before taking the loan for your debt consolidation.

Lower Monthly Debt Payment

This depends on how best you think favors you. Lower monthly debt payments mean you will use more months to pay off our new loan. This may increase the total sum of the money you will be paying. Though, a lower monthly debt payment can be a relief, especially if your income or means of payment is not buoyant enough.

Improve Credit Score

While taking a new loan may initially affect your credit score negatively, however, when you pay off your multiple lines of debts, including the credit card, your credit scores will certainly improve for the better. Aside from that, the situation of you paying a single lender consistently will also improve your credit score. As you focus on a single lender to be debt-free with periodic payments, your credit score would change for the better.

What you should be wary of

Debt consolidation has many benefits, however, you be wary of some of the disadvantages that come up with debt consolidation if not managed properly. Some things you should consider and be careful about are the following:

• Increase in the total debts.

• Payment of interest for longer periods.

• Tendency to miss your periodic loan payments

• It may not entirely solve your financial predicament

• It can lead to more spending habits.

The best solution

After you must have decided to choose debt consolidation as a means of financing your debt, it is still advisable to consider the expert's advice and analysis before committing yourself to it. This is simply because if your debt consolidation is not managed properly, there is a high tendency of accumulating more debts in the long run than expected.

Sources - Become Debt Free

personal finance

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