According to the New York Federal Reserve, the total consumer debt in the United States, including student loans, car loans, credit card debt, and mortgages, reached $14.96 trillion in the second quarter of 2021. Some Americans cannot handle their debt, forcing them to look into alternative possibilities rather than trying to make progress on an ever-rising mountain. Working with creditors to reach a debt settlement, using a home equity line of credit, or obtaining a debt consolidation loan are a few ways to get out of debt. In order to pay off several debts and consolidate those monthly payments into one, sometimes at a reduced interest rate, debt consolidation loans are employed. Despite the fact that it seems like the best option, weigh the advantages and disadvantages of debt consolidation.
What is a consolidation of debt?
The act of consolidating two or more loans into one, more enormous obligation is known as debt consolidation. Consumers who are saddled with a sizable quantity of high-interest debt frequently take this action. According to Katie Ross, executive vice president of the group American Consumer Credit Counseling, “it’s frequently used to consolidate credit card bills, auto loans, school loans, medical debt, or other forms of loans into a new loan.” The borrower would therefore just have to make one monthly payment as opposed to one for each loan.
Debt consolidation should provide the borrower with more advantageous loan conditions, such as a more reasonable interest rate, in addition to streamlining their finances.
5 Main Advantages Of Consolidating Debt
The most effective method for people to escape debt is frequently debt consolidation. Here are a few of the primary advantages that could be relevant.
1. Early debt repayment
If you have a lot of credit card debt, getting a debt consolidation loan may put you on a speedier path to final repayment. A debt on a credit card can be paid off at any moment, but a consolidation loan has fixed monthly payments and a defined start and finish date.
2. Financial Simplification
Since there is only one payment due each month when you consolidate all of your debt, you won’t need to be concerned about several payments. Additionally, because the payment is the same each month, you can budget with certainty.
3. Reduce The Cost Of Borrowing
The typical credit card APR is about 16 percent as of November 2021. The average personal loan interest rate is under 11% at the same time. You’re likely to earn a cheaper interest rate with a debt consolidation loan than you are with a credit card now, however prices do vary based on your credit score, the loan amount, and the term duration.
4. Have a set plan for payback
You will know exactly how much is owed each month and when your very last payment is due if you take out a personal loan to pay off your debt. If you merely make the minimum payments on a high-rate credit card, it can take you years to pay it off completely.
5. Improve credit
A debt consolidation loan may initially cause your credit score to drop somewhat since you’ll need to undergo a thorough credit investigation, but it will probably raise it over time. That’s because timely payments will be simpler to make. Paying a single monthly bill on time should greatly increase your credit score because your payment history makes up 35% of your credit score. Additionally, you’ll have a better credit use ratio and a stronger credit history if any of your previous debt came through credit cards and you continue to use them. Your credit score is made up of 30 percent of your outstanding debts and 15 percent of your credit history. If you close your cards after paying them off, these two areas can suffer. To improve your credit score, keep them open.