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Debt Consolidation

by: sahil | last updated: December 09, 2009
Category: Personal Finance | Tags: Debt consolidation, consolidation, personal debt, credit card debt consolidation, debt

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Debt Consolidation

Debt consolidation simply means taking out one single loan to pay off many others and is usually used for paying off credit card debt. This is because credit cards usually have a very high interest rate and can affect your credit report. However, debt consolidation can also be used for paying off other types of loans. The advantage of debt consolidation for a person is that the interest rate on the loan may be reduced or a discount may be given on the loan.

Typically, debt consolidation is done through a third party that is called a debt consolidation company. These companies negotiate and help the debtor to consolidate the various loans. However such companies have been criticized by many as simply collection agencies acting on behalf of the lenders.

Debt consolidation is common for student loans; however the features of such plans vary from one country to another. In the U.S, federal student loans can be consolidated without paying any fees to the consolidating company. The loan rates can vary from 4.7% to 8.25% and the loans are purchased and closed by a loan consolidation company or by the Department of Education.

Debt consolidation usually converts many unsecured loans into one single unsecured loan with a lower interest rate. However, a much lower interest rate can be enjoyed by the borrower if the loan is secured. Secured loans are those that need collateral such as a house or a car or both. The caveat here is that the chances of foreclosures increase if such secured consolidated loans are opted for by the consumer.

Credit reports are also affected by debt consolidation and sometimes student loan consolidation can be beneficial for the credit rating of that student. However this is not the case in the U.K where student loan debt consolidation has no effect on the credit rating. In spite of this, the fact remains that students in U.S as well as in U.K and other developed countries often struggle for a long time to pay off their loans.

Debt consolidation can only be recommended when there are no other options left and if you have nothing left to pay off the loan. This is because debt consolidation can render an already indebted person homeless if the loan is “shifted” to become a secured one. Even if a person is facing stupendous amounts of debts it is still advisable to scour for other means rather than just blindly opt for consolidation.

Debt consolidation can be used as a last resort when you are unable to pay for the bare minimums in life such as food, rent, or mortgage. Even when using debt consolidation it is advisable to scour for a good debt consolidation company in order to avoid predatory lending. Predatory lending is lending by a debt consolidation company and offering higher rates of interest compared to other companies; keeping the customers in the dark about the better choices available in the market.

Mortgage and car loans cannot be consolidated as they are already secured loans; on the other hand, credit card loans and debt are usually the type of unsecured loans that are subject to debt consolidation. Debt consolidation can be viewed in a positive perspective by many creditors compared to people who file for bankruptcy. Since bankruptcy (chapter 7) completely wipes off the debt instead of consolidating it, creditors will often extend loans in the future to those who have opted for consolidation instead of filing for bankruptcy.