Escaping Debt with a Consolidation Loan
Millions of Americans juggle multiple debts, from credit cards to personal loans.
For many of these consumers, keeping track of these multiple payments and due dates every month can be daunting, and in today's tough economic times, being able to pay all of their payments each month can be a challenge.
Faced with these financial struggles, more and more consumers are turning to debt consolidation loans to help them find a way out from underneath their mountain of debt.
Debt Consolidation Loans: The Basics
A debt consolidation loan is a brand new loan that is secured in order to pay off other debts, consolidating them into one loan. There are two types of debt consolidation loans one can obtain: an unsecured personal loan, which does not require collateral, or a secured loan, such as a home equity loan through which one's home serves as collateral for the loan.
Those considering a debt consolidation loan would apply for the loan in the same ways as they would for other types of loans. Your credit history plus current income and the size of your overall debt would be considered. In the end, those with better credit ratings will be able to get approval for more funding at better interest rates.
For home equity loans, the amount of equity you own in your home comes into play. The lender will start with a percentage of your home's appraised value - generally 75 percent to 80 percent. Then, the amount you still owe on your mortgage is subtracted from the appraised value. The final number is the maximum amount you can receive from the lender.
The Benefits of Debt Consolidation Loans
Debt consolidation loans can provide several benefits to those struggling to make financial ends meet.
A debt consolidation loan can:
- Simplify your finances by replacing multiple bills with multiple due dates with one simple monthly payment.
- Provide lower monthly payments through lower interested rates and extended repayment periods.
- Offer a tax benefit - for home equity loans, the interest paid on the loan is tax deductible in most cases.
Potential Risks Associated with Debt Consolidation Loans
As with any financial endeavor, a debt consolidation loan is not without its share of risks. Before moving forward with a debt consolidation loan, these risks should be weighed carefully.
Because a debt consolidation loan offers an extended repayment period, those with debt consolidation loans could end up paying more interest in the long run if they are not careful. Although the interest on a debt consolidation loan typically is lower than rates associated with credit cards and many personal loans, the extended repayment period could result in more total accrued interest compared to your current debts. Additionally, the fees associated with a debt consolidation loan could end up offsetting any potential benefits.
Another risk associated with debt consolidation loans is specific to home equity loans. With a home equity loan, your home is used as collateral to back the loan, which means that your home is now on the line. If you default on the home equity loan, you could lose your home. For this reason, it is essential that you are able to make your monthly payments without fail before securing a home equity loan.
