What is Debt Consolidation?


Tags: debt consolidation,personal finance,short term debt solutions,


Debt consolidation is a popular and widely used financial solution. What is debt consolidation, what are the potential benefits of debt consolidation, and what are the different types of debt consolidation you may wish to consider?

Understanding Debt Consolidation

Debt consolidation is a type of debt refinancing. When you consolidate your debts, you use a new loan to pay off all your current debts, thus consolidating your debts into one payment.

If you use debt consolidation as a financial solution for you, what are the benefits you may enjoy?

  • You might reduce your overall debt by reducing the level of interest you are paying
  • You can reduce your debt repayments, saving you a significant sum of money
  • You can become debt free quicker
  • You can make managing your finances easier by making one regular repayment instead of several
  • You can use debt consolidation for improving your credit rating and history

Debt consolidation is a great tool and solution for moving towards becoming debt free. However, if you use debt consolidation because you are insolvent, you may subsequently struggle to repay the consolidation loan. Also, if you continue to open new credit accounts after consolidating debts, and fail to keep up with the repayments on your consolidation solution as well as the new accounts, you could face serious sanctions including your accounts falling into default, and being subject to court proceedings or potentially even becoming bankrupt.

Different Types of Debt Consolidation

Here are some of the different types of debt consolidation that you may be considering, as well as a brief overview of whether they are likely to be beneficial to your situation.

Debt Consolidation Loans

A personal loan for debt consolidation is probably the most traditional and common method of consolidating debts. Many lenders offer specific debt consolidation loans, and will pay the loan out to your creditors rather than to yourself. This saves you the hassle of contacting all your creditors yourself, but also allows your new lender to protect you by ensuring the loan is used for its intended purposes.

When shopping around for a debt consolidation loan you need to make sure that the terms of your loan mean you’re definitely better off. Debt consolidation loans don’t automatically mean a better interest rate and lower repayments. If you don’t plan correctly you could easily find yourself having consolidated debts but now repaying more or at a higher interest rate, meaning it’ll take you longer to become debt free.

Balance Transfers

Balance transfers are commonly used to consolidate credit card debts, but depending on the type of new credit card you have you might be able to transfer loan balances and other credit accounts onto them.

Balance transfers with credit cards are a useful debt consolidation option if:

  • You are able to find a new credit card with a long 0% interest free period on balance transfers
  • You are committed to using the 0% period to repay as much as you possibly can

Under these circumstances, you would be able to repay a large chunk of your debts without accruing any further interest. Depending on how much debt you then have left outstanding, you could look to consolidate again onto another card with a promotional rate. It is crucial that you commit to repaying your debts if you opt for a balance transfer, as repeated balance transfers without actually reducing your debt in the long term can cause damage to your credit score.

Short Term Debt Solutions

Using short term debt solutions, such as payday loans, is definitely a debt consolidation option depending on your level of debt and the amount you can borrow, but it is definitely not one we would recommend. Even if you are able to access a short term debt solution that allows you to repay over 6-12 months, the interest rate is likely to be so high that you’ll ultimately pay much more than if you just repaid your creditors at your current rate.

If you are starting to struggle with debts, it is far better to be open and honest with your creditors than it is to turn to short term debt. Creditors will usually be understanding and willing to help you if you apply for hardship consideration. If you use short term debt and begin to miss payments, your debts could quickly spiral even further out of control.

Your Debt Consolidation Options

When it comes to debt consolidation, consider which option is best for you under your circumstances, and in the case of balance transfers think about whether you’re able to make the necessary repayments to reduce your debt during any promotional period.

If you opt for debt consolidation, ensure that you’re set up to enjoy what should be the benefits of doing so, and not using it as a mask for deeper financial troubles or as a means of clearing up credit to use once again.

Disclaimer:  This article contains general comments and recommendations only.  This article has been prepared without taking account of your objectives, financial situation or needs.  Before taking any action you should consider the appropriateness of the comments made in the article, having regard to your objectives, financial situation and needs. If this article relates to the acquisition, or possible acquisition, of a particular credit product you should obtain and consider the relevant disclosure documents before applying for the product.

MacCredit SM