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Are Debt Consolidation Loans Effective?

Debt consolidation helps the borrower to change the terms of the agreement and ease the debt burden. This service can be used if there are unplanned expenses. It is quite popular in the USA and European countries.

How debt consolidation works?

As noted above, debt consolidation is the process of using various forms of financing to pay off other debts and obligations. Therefore, when a consumer is charged with different types of debts, he can apply for a loan to consolidate those debts into a single obligation and pay them off. Then payments are made on the new debt until it is fully paid off.

Most consumers apply through their bank, credit union or credit card company for a debt consolidation loan as a first step. This is a great place to start, especially if you have a good payment history with your institution. If you are turned down, try contacting private mortgage companies or lenders.

Lenders are willing to do this for several reasons. Debt consolidation increases the likelihood of collection from the debtor. These loans are usually offered by financial institutions such as banks and credit unions, but there are other specialized debt consolidation service companies that provide these services to the public.

It is important to note that debt consolidation loans do not erase the original debt. Instead, they simply transfer consumer loans to another lender or another type of loan. For actual debt relief, or for those who are not eligible for loans, it may be better to consider debt settlement rather than or with a debt consolidation loan. Debt repayment is aimed at reducing the consumer’s liabilities, not the number of creditors. Consumers work with debt relief organizations or credit counseling services. These organizations do not issue real loans, but try to renegotiate the current debts of the borrower with the lenders.

Debt consolidation advantages

Consolidation – is refinancing of several credit accounts into one to pay off debt. As a rule, a reduced rate is applied to such debts, so the debt pressure on the borrower is reduced. A single account is also convenient for other reasons:

  • it is easier to manage;
  • a debt repayment scheme is developed for a specific client, depending on his financial situation;
  • you can attract co-borrowers, security and guarantors of the transaction;
  • the credit rating rises as the number of regular payments decreases;
  • the total amount of monthly payments decreases;
  • less money is spent on commissions for servicing several bank accounts, transactions;
  • service in one financial institution;
  • with successful completion of the program, the credit history improves.

Financial managers are usually involved in drafting a debt consolidation program. They meet with the client, find out the reason for the non-fulfillment of the loan agreement, and then determine on what terms their client can repay the loan.

Disadvantages of consolidation loan

You can use such a program only for significant reasons – for example, due to illness or dismissal due to staff reductions. This is especially true for secured loans. After all, banks are more willing to go to the procedure of compulsory debt collection.

The main disadvantages are:

  • banks are more likely to offer the program to selected customers;
  • the borrower must be solvent;
  • the consolidation service is paid;
  • the lender requires a pledge or surety;
  • with poor payment discipline, more stringent terms are introduced;
  • not all banks offer this service.

The main aim – lowest loses

Experts recommend not applying immediately. It’s best to evaluate all your loans first and pay off the smallest ones. This will not only reduce the load, but also improve the reputation, increase the chances of a positive response from the bank.

It is not advisable to settle for a secured loan when it comes to unsecured loans. If the client does not comply with the terms of the agreement or the payment schedule, he may lose valuable property. The term of the contract is important: the longer it is, the greater the overpayment will be. You will also have to repay your card loan, even if the grace period has not expired.

Debt consolidation requirements

Borrowers must have the necessary income and creditworthiness, especially if you are going to apply to a new lender. While the type of paperwork you may need will often depend on your credit history, the most common information includes a letter of employment, two-month statements for each credit card or loan you wish to repay, and letters from lenders or payment agencies.

Once you get your debt consolidation tool, you should consider who you will pay first. In many cases, this can be decided by your lender, who can choose the order in which the lenders are repaid. If not, pay off the debt with the highest interest rate first. However, if you have a loan with a lower interest rate that causes you more emotional and psychological stress than loans with a higher interest rate (for example, a personal loan that has strained family relationships), you can start with that.