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Anyone who’s been in debt knows it can feel like a literal weight on you. Whether student loans or credit cards, just knowing you owe significant sums of money can really take a toll.
Fortunately, you can turn things around. (Yes, even you.) Chances are you’ve seen or read stories about how people have paid off thousands of dollars of debt in just months. I’ll grant you that the headlines make it seem simple and easy (it’s not), but it is indeed possible. Yes, you will have to make sacrifices, be incredibly disciplined and probably change the way you think about money, but all of those things are doable.
If you’re carrying a lot of debt and looking for a path out, you’re in the right place. You can get out debt, and a debt consolidation loan is one option worth considering. Is this a one size fits all solution that will work for everyone? Certainly not. But if you’re having trouble keeping track of lots of different payments each month or you’re getting killed on interest rates, keep reading. Below, Greg McBride, Bankrate’s chief financial analyst, shares five key pointers to keep in mind when exploring debt consolidation loans. His tips might just be exactly what you need to turn things around.
5 Questions to Ask When Considering a Debt Consolidation Loan
1. What is a debt consolidation loan?
Let’s start with the basics right? Just as the name suggests, a debt consolidation loan is a way to combine multiple loans into a single one. It’s a pretty common service that many banks and online lenders offer.
Consolidating your debts can have many advantages. First, it makes monthly payments more straightforward. Paying one loan each month is much easier than having to keep track of and pay multiple credit card companies and/or student loans.
Another reason to consider a debt consolidation loan? They might offer a more favorable interest rate. Now, be forewarned, this isn’t always the case, but it’s definitely worth looking into. More to come on this a little later.
Lastly, McBride explains that debt consolidation can boost your credit score. Having multiple credit cards that are maxed out can have a negative impact on your credit score because your credit usage is high. If you move those loans to a single debt consolidation loan, your overall available credit will increase plus the balances on your other cards will come down because you’ve used the loan to pay them off. Those two factors along with regular, on-time payments on your debt consolidation loan can mean a nice boost in your credit score.
2. What are the terms of your current loan (or loans)?
As with any loan, it’s important to consider the terms of a debt consolidation loan before deciding if it’s the right option for you. One thing to be on the lookout for is how long the loan payments will last on a debt consolidation. If the duration of payments is longer than that of your current credit cards, then you should work to re-negotiate those terms. McBride cautions that you definitely don’t want to sign up for a debt consolidation loan with a longer term than your current ones.
3. What’s the interest rate on your current loan?
Store credit cards have notoriously high interest rates. We’re talking upwards of 20% in some cases. If you’re carrying a lot of debt in this form, a debt consolidation loan might be right for you simply to lower the total amount of interest you’re paying over time. When reviewing your options, always check the interest rate on a debt consolidation loan. If it’s lower (even just by a little) than the interest rate on your current debts, this may be a good move for you. Those small interest rate payments really add up over time, and wouldn’t you rather that money be in your bank account?
If your debt happens to be student loans, then unfortunately you won’t get a break on interest rates with a debt consolidation loan. According to McBride, the debt consolidation loan will have an interest rate that is simply the average of all your current student loans. That said, if multiple student loan payments is a pain for you, consolidating them can ease that burden.
4. Will you be approved for a debt consolidation loan?
A debt consolidation loan is just like any other; you’ll still need to be approved for it. (No, just having a lot of debt doesn’t automatically mean you qualify.) With that in mind, you’ll want to think about if you’re a good candidate for this type of loan. What’s your credit score? What’s your debt ratio, or the amount of your monthly income that goes toward loan payments? Do you have any collateral to offer the lender like a house or other property? These are all factors that lenders will take into consideration when determining whether or not to approve you for a debt consolidation loan.
If your credit score isn’t great or your debt ratio is high, don’t feel completely discouraged. A debt consolidation loan may still be worth exploring as some lenders are more flexible than others. That said, you may have to make a few concessions depending on your situation. If you’re not a very strong candidate, some lenders may approve your debt consolidation loan, but rather than give you the money to pay off all your other debts, they can stipulate that they pay the other creditors directly. After all, they have to trust that you’re actually going to use the money for its intended purpose and also that you’ll pay them back. Which leads to the final point…
5. Are you really ready to change?
According to McBride, this is arguably the most important consideration. Think about how you accumulated the debt you have. If job loss or a medical emergency landed you in debt, then you’re likely to get back on track once those matters are resolved. If, however, spending frivolously and living beyond your means is the reason you’re deep in debt, you need to address that first. As McBride explains, you don’t just want to be “moving deck chairs,” or in other words moving debt from one lender to another. Yes, the goal of a debt consolidation loan is to make paying down your debt easier, but the key factor to success is actually paying down your debt. The worst thing you can do is use a debt consolidation loan to free up your other lines of credit just to run them up again. Before proceeding with a debt consolidation loan, think long and hard about if you’re ready to actually buckle down and start digging yourself out of debt. It won’t happen overnight and it will definitely mean less boozy brunches with friends and new clothes each season, but always keep your eye on the end goal. When you’ve lived for so many years buried in debt, being free of that weight will truly make you feel like you can do anything.