Millions of people owe money on more than one loan or credit card. Some have a complex web of personal loans, credit cards and other accounts, all charging different levels of interest and all requiring regular monthly payments.
If you fall behind on any one of them, then you risk damaging your credit rating and getting into a spiral of late payments where you will constantly be struggling to catch up. Left too long, this circle of arrears and missed payments can snowball into serious financial difficulty.
This is the point that a personal loan can be used to consolidate your debt. A personal loan used in this way will lump all of your debts into one and mean that you only have to worry about making one payment each month. You will only have one interest rate to worry about and the certainty offered by a single monthly payment will allow you to plan your household finances for months, often years, in advance. Using a personal loan for debt consolidation can take much of the worry and hassle out of managing your finances.
Let’s take a look at how a personal loan might work for consolidating other debts and how using this method can help you to get your financial affairs back on an even keel.
How do they work?
When you take out a loan to consolidate other accounts, you move all of your borrowing – or the majority of them – on to this new loan. Once you’ve done that, you are then free to close your other loans and credit cards by transferring the money you’ve received on the new personal loan onto these accounts. If you do this for all of your other debts, then you will only have one monthly repayment to worry about.
If you do go down this road, it’s important that you contact the organisations you hold existing balances with to check whether you will face any hidden fees for paying off the accounts. Some loans, in particular, come with early redemption penalties, which the lender uses to limit the loss of interest they incur when people settle accounts early.
If you do face early redemption penalties, it’s important that you take account of these before applying for the new loan because you might leave yourself out of pocket if you have not borrowed enough to cover them.
The vast majority of loans used for debt consolidation are unsecured. You don’t have to put up your house as security or find a guarantor. But just because they are not backed by security, does not mean that you shouldn’t act responsibly when looking for one. Be realistic about how much you can afford to repay each month and don’t be tempted, once you’ve got the money, to start spending it on other things like holidays, cars or electronic gadgets. If you do this, you’ll be left with some or all of the debts you are already struggling with plus the new loan.
The advantages of consolidating debt
By far the largest advantage of debt consolidation is that you only have one loan, one interest rate and one payment to manage each month.
This will allow you to plan ahead with much greater certainty and to concentrate on your household budget.
When you take out a debt consolidation loan and then close down the accounts, which you have cleared, you will also be improving your credit rating, making it more likely that you will be approved for other forms of credit in the future.
Things to look out for
You need to pay close attention to the interest rates charge on various personal loans before applying to ensure that you don’t end up paying more than you have to. If you are planning on closing credit card accounts by transferring the money from your new loan, you will have to pay more in interest than if you simply took advantage of an interest free period for balance transfers on a new credit card. This route may not be open you you, however, if you have a poor credit record because you will struggle to get approval for a balance transfer card.
Be realistic about your debts when shopping around for loans. Remember that the more that you borrow on your new personal loan, the lower your interest rate will be although you will, at the end of the loan, have paid more in total interest than with a smaller loan. Always try to borrow a little bit more than you need to clear your debts if this means that you will benefit from a lower interest rate.
If you are using the new personal loan to get your finances back on track, then you might be planning to pay off the new loan early. If this is the case, then make sure that you check the loan’s terms and conditions before applying to make sure that there are not any early redemption penalties. If there are, balance these against the total interest that you might save by paying the loan off early.
Remember that there are many different loans from a multitude of different providers to choose from. The days when personal loans were only issued by the high street banks are long gone so it pays to shop around to find the best deal for your particular circumstances. Doing your research up front will save you headaches later on.
Article provided by Mike James, an independent content writer working together with Solution Loans, a technology-led finance broker with many years’ experience in advising clients of their most suitable type of credit.