For people with more than one form of consumer debt, a consolidation loan can be a great way to manage overall debt. While these loans may seem like a perfect way out in difficult financial situations, you should be aware that there are some drawbacks that come with them. This article will help provide you with knowledge and information on the ways to avoid the pitfalls of debt consolidation loans.
What is a Debt Consolidation Loan?
A debt consolidation loan is a new loan that allows you to pay off other pending loans with more pressing deadlines. This new loan is meant to have relatively flexible terms as compared to other loans, thus providing you with more time to repay the total amount. There are different kinds of debt consolidation loans, each having unique structure and terms. Let’s take a closer look at them:
Secured Loans for Debt Consolidation
Secured loans are the type of loans in which the borrower places a valuable asset as collateral in the case of default. Secured loans have relatively flexible terms and good rates, but can be costly if the debtor is unable to pay back the loan in time.
Unsecured Loans for Debt Consolidation
There is no asset or property involved in unsecured loans. As a result, the interest rates and payment terms are fixed.
Fixed Loans for Debt Consolidation
Fixed loans may have higher interest rates in the initial stages, but they are preferred by many borrowers because of their stable rates. The interest rates are fixed and are not affected by the ever-changing market rates. This relieves the debtors from any rising market rates and allows them to plan payments accordingly.
Variable Loans for Debt Consolidation
The initial interest rates of these loans may be lower than fixed loan rates, but that depends upon current market rates. This type of loan can greatly benefit you in a situation where interest rates fall. However, in many cases, the interest rates keep rising and put additional pressure on the debtor.
Payment vs. Rate
It is important to understand that the actual cost of the loan is not the payment that you have borrowed, but the interest rate that is applied to it. Some borrowers aren’t well versed in financial technicalities, so they are lured by extended periods of loan repayment. Companies that offer unusually lengthy times of payment may increase interest rates which increases the overall cost of the loan. When choosing a company to borrow money from, don’t focus only on longer time-frames for repayment. Instead, choose a company that offers lower interest rates with manageable repayment time frames.
Terms within the terms
Many borrowers fall prey to the “terms within the terms” of debt consolidation loans. While they may seem easy and straightforward, it is very important to go through each clause of the agreement to fully understand the terms before signing the deal. This helps you find out any hidden charges or varying interest rates.
Have a Plan to Repay
In many cases, debt consolidation loans are used as a means to avert a desperate situation. However, some borrowers neither have the resources nor the planning to find a way to pay back the loan. Clearly, this can be problematic, so make sure to have a budget that allows the loan can be repaid.
Debt consolidation loans can be some of the best tools to manage debt repayment. However, debt consolidation loans come with their own pitfalls. A detailed knowledge of these loans is helpful in avoiding the disadvantages of debt consolidation.