When Is Debt Consolidation a Bad Idea?

Debt consolidation gives you the chance to simplify your debt repayments. It’s a form of refinancing that entails taking a single loan to pay off many other loans. Debt consolidation or refinancing can work for some people. For others, it may serve only as a temporary fix. So if you’re struggling to repay your mortgage, car loan, education loans, credit card bills, and other debts, make sure you carefully consider all your options before you choose to go the debt consolidation way.

Calculate your Debt Consolidation

Debt consolidation sounds very appealing. It’s an easy solution for those who don’t know how to handle their finances. But is it really a good idea? The answer is not always. Let’s say you have two loans and your payment on the first loan is $520 per month and $550 on the second loan. This amounts to a total of $1070 per month. Let’s also say the interest on your first loan is calculated at the rate of 10% while the interest on the second loan is calculated at the rate of 12%. A debt consolidation company may tell you they can lower your interest rate to say 9% and offer you a low monthly payment of only $750 per month by rolling your loans into one.

Sounds good, doesn’t it?

What they won’t tell you is that it will now take many more years to pay off the entire amount owed. If you do the calculations, you’ll be surprised to know that you’ll end up coughing up thousands more than you first anticipated. So calculate your debt consolidation to find out whether it’s really going to benefit you in the long run.

When is debt consolidation a bad idea - Caution written on ground

Dangers of Debt Consolidation

Firstly, if you’re considering debt consolidation, you need to make sure you’re disciplined in making loan repayments. Some people end up getting deeper into debt. They transfer their credit card balances to their home loan and put more debt on their cards. You also have to remember that if you use your home as security for your loan, you may lose your house if you fail to pay the new loan.

Check the fees and the costs to refinance. Be sure that the rate of interest and the fees are lower than your current debt agreements. Some lenders charge people 50% interest or even more. They may also charge higher penalties and rates if the borrower defaults on the loan.

Debt Consolidation and Credit Score

Debt consolidation may have an adverse impact on your credit score. If you fail to meet your loan repayments on time, you could risk having these marked as overdue debts on your credit report, and this will certainly bring down your credit score.

Review all your options if you can’t repay your loans. Find out whether you can come up with a new arrangement with your credit provider. Ask them if you could extend the loan term to reduce your repayments. Also, find out if you could apply for an interest rate reduction. Lastly, change your habits to get out of debt. Find ways to bring in more money, live on less than the total the amount you make, create a plan to get out of debt and make sure you stick to it.


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