Debt consolidation is a great decision if you want lower monthly payments, make finance management easier, and decrease interest rates. However, with all those advantages, there are also disadvantages that we need to keep in mind. Do note that it all depends on your financial situation.
So before we begin, let’s first talk about debt consolidation.
What is Debt Consolidation?
Debt consolidation, in essence, is the act of putting all of your loans into a single account. It’s like refinancing a loan, but this time, you’re refinancing multiple loans simultaneously. The most common type of loan that people usually get for debt consolidation is a personal loan.
However, there are other ways to consolidate your debt besides taking a personal loan. Examples include a balance transfer credit card, home equity loans, etc. But as mentioned earlier, as good as it sounds, debt consolidation is not all sparkles and rainbows. It also has different disadvantages that you should know.
Pros of Debt Consolidation
Here are some advantages of debt consolidation-
Faster Debt Repayment
Taking out a debt consolidation loan will put you on a faster track toward a total payoff on all your debts, especially when you have a significant credit card debt. Some credit cards don’t have a set timeline for paying off the balance. Still, with debt consolidation, you don’t have to worry about forgetting them since a debt consolidation loan has fixed repayment schedules.
Lower Interest Rate
One of the best things about debt consolidation loans is that you can easily get a low-interest rate, easy online loan. Better yet, you can get a look into credit cards with a 0% introductory annual percentage rate offer on balance transfers. This way, you can consolidate your loans into the card and pay them off without accruing any interest within the introductory period.
It Will Boost Your Credit
While taking out a loan can reduce your credit score since you’ll be getting a hard inquiry, paying your loan diligently will eventually boost your credit score. It’s because it will be easier for you to manage all your accounts, meaning it will be easier to repay them on time.
Additionally, if you have any old credit card debt, you can start paying them off. By keeping them open, you’ll be decreasing your credit utilization ratio, which is a huge factor in determining your credit score, so keeping it low can boost your credit score significantly.
Cons of Debt Consolidation
Beware of Fees
If you take out a new loan, you may have to pay origination fees. Not only that, but most credit cards charge balance transfer fees. These fees are generally a significant percentage of the amount you’ll borrow. You could pay these outright, or they could be added to your account’s balance. That said, you should calculate how much fee you’ll be paying to see if getting a debt consolidation loan will make sense for your financial situation.
It Doesn’t Instantly Solve Your Financial Problems
Consolidating your debt doesn’t mean you won’t get into debt again. If you have a habit of living beyond your means, you’ll likely be in debt again. Remember, consolidating your loans only helps you get out of debt, not prevent you from going into it again.
You Might Not be Qualified for a Better Offer
Your debt consolidation loan might have a higher interest rate than what you currently have on your other accounts. It can happen for various reasons, but mostly, it would be because of your poor credit score.
You might not be able to have a low-interest rate on your debt consolidation loan, and you might not get access to a 0% APR credit card. Before considering getting a debt consolidation loan, you might want to weigh your immediate needs and long-term goals first.
Consolidating Debt Through a Secured Loan Can Be Dangerous
If you use secured loans like equity loans, your collateral might be in danger. If you fail to pay off your debt consolidation loan, for example, on a home equity loan, you might lose possession of your house. It’s a huge risk, so you should consider it before getting a secured debt consolidation loan.
Debt consolidation is a great financial move if you struggle with multiple accounts. However, it also has cons, so you should weigh the pros and cons before getting a debt consolidation loan. It’s an immediate relief for the most part, but in the long term, it’s not. It’s just a bandage for your current situation, so you must still tackle your underlying financial problems.