Should I Consider a Debt Consolidation Loan?

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[Photo Credit: Flickr/ Ken Teegardein – ]
Many of us know that debt consolidation is the process of taking several existing debts and combining them into one monthly payment. What’s often not as well known is which kind of debts can be consolidated, and what different methods there may be to consolidate that debt.  Usually the types of debts that can be consolidated depend on the type of debt consolidation method you are pursuing.

With a debt consolidation loan, the goal is to obtain a loan at a lower interest rate to help you pay off all of your higher interest rate loans or credit cards.  Usually the debts you will combine into an unsecured debt consolidation loan will be limited to debts with higher interest rates.  Paying off your credit card with a 19.9% APR using a 10.5% APR debt consolidation loan makes sense, but paying off your car loan at 2.9% APR with that same 10.5% APR loan probably doesn’t.

Combining secured debt (like home equity or auto loans) or student loans that have low interest rates with your high interest loan and credit card debt is where debt consolidation can become a burden. Although the interest rate from the debt consolidation loan may be lower than your credit card interest rate, it will likely be higher than your secured interest rate or student loans, so it is unlikely to save you money or make your payments easier.

There are specific programs available to help people consolidate student loans, so in the vast majority of cases those loans should be treated separately from any other debts.

You may also want to consider a debt management program or a debt settlement program, which can both prove to be helpful alternatives if your credit situation is such that a debt consolidation loan isn’t a possibility.  Debt management programs will consolidate credit card debts into one payment, usually dramatically lowering or eliminating interest and fees.  A caveat to that program is you will usually be required to cancel all of your cards except for one to show you are serious about getting your debt under control – a small price to pay to get out from under a mountain of debt!  Debt settlement companies will work directly with your creditors to try to negotiate paying your balances at less than full value, sometimes as low as $.40 of every $1.00 of debt.  Both of these options can get you out of debt quicker than you can by simply continuing to make payments, but they do have credit repercussions so it’s important to understand all of the facts before making a decision.

It is important to remember that while consolidating debt is helpful, it will not solve all of your financial problems. If your debt problems were caused by overspending and undersaving, you must make some changes. If you do consolidate, you must make sure you are spending less and saving more to actually eliminate the root cause of your problems.  Amending old habits will have you on the right path to eliminating your debt for the long term and being worry free!