Debt consolidation is something that used to be on everyone’s lips. For a long time, people believed that the answer to their debt was to consolidate it. But it is far from the magic bullet to get out of debt that people think it to be. Whether you decide to consolidate your debt will depend on your personal financial circumstances.
We are going to help you understand what debt consolidation is and when you should consolidate your debt. You will then be able to make an informed financial decision.
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What is Debt Consolidation?
Debt consolidation is essentially a company buying your debt through paying off your creditors. You then take the amount they paid off and you continue paying it off to this company. This is a perfectly valid strategy to get rid of debt, and a lot of households have used it successfully.
The principle is about turning multiple debts into a single debt, thus making them easier to manage. But it is not something that works for everyone. Debt consolidation comes with its fair share of benefits and drawbacks.
Why Should You Opt for Debt Consolidation?
The most obvious reason to opt for debt consolidation is to convert multiple payments into one. The whole idea is to take multiple creditors and to turn it into one creditor. For a lot of people, they use debt consolidation because it makes it easy for them when they have multiple debts. You no longer have to worry about which creditor you should pay first.
Another benefit of paying off your debts this way is you often get a lower interest rate. A lot of the money you are paying back to multiple creditors is dead money because all you are doing is paying back interest. These interest payments can amount to thousands of pounds over the lifetime of multiple loans.
Lump the debt together and you are paying interest on a single loan. In most cases, this will lead to you paying less interest. You are already saving a lot of money before you even get started. Savings from lower interest rates can begin to add up over time.
Before you even take lower interest rates into account, you are also going to get lower monthly payments. You are making one payment with one interest rate, so you are naturally going to have to pay less back per month. It may mean that you take longer to pay the whole sum off, but it is more manageable.
What are the Main Drawbacks of Debt Consolidation?
It should be said that debt consolidation can sometimes work against you. This is why you need to make a careful decision prior to accepting the offer of debt consolidation.
For a start, it can lead to more debt if you do not handle this correctly. Many people find they have a lot more free money than they did before. Naturally, they spend it because they think they have more wiggle room. Smart consumers, when they consolidate this debt, also consolidate their finances. They do not use the extra money they have in a positive way. Usually, they get into even more debt.
Once again, the cycle continues.
More alarmingly is the fact that if you fail to do this correctly, you can find yourself paying more in the long-term. Since you will be paying your debts back over a longer period of time, even with lower interest rates and lower payments you could pay more in the end.
To make debt consolidation work, you have to stay organised and aim to pay off the debt as soon as you can. Do not assume debt consolidation can act as a free pass for you to have more disposable income. You will never hear this fact from debt consolidation companies.
Finally, it is possible to lose a lot as a result of debt consolidation. You could be using debt consolidation on secured loans, for example. Debt consolidation on secured loans is dangerous because your assets are acting as a security deposit. If you fail to make the repayments, you could find that you lose your house or your car.
How Do You Choose the Right Debt Consolidation Company?
Choosing the right debt consolidation company is crucial because you are going to be working with them for the next few years. They are not like banks in that they are protected against major financial crashes. They are creditors like anyone else, except they are registered companies.
You also have to bear in mind that they are responsible for your credit score and credit history from this point onwards since you are then paying them. Get it wrong and you could see your credit history wiped out. Thankfully, the majority of companies do things by the book, and you have nothing to worry about.
Do your research into any company before deciding whether to opt for debt consolidation with them. Find out what previous customers are saying to get an accurate snapshot of how they deal with their customers.
Tackle the Root Cause
Debt consolidation is always best whenever you happen to have a lot of debts that become difficult to manage. But you have to consider why you experienced problems in the first place. Usually, this was caused by financial mismanagement, so you have to make sure you tackle the root causes of your problems.
Begin by getting into the habit of crafting a financial budget. Keep track of what you have coming in and what you are spending. This should be a fluid budget that is regularly updated.
Over time, you will begin to discover how beneficial this can be. You can avoid getting into debt, and you can rebuild your credit history. In the long run, this will make you eligible for more generous loans, and you can claim lower interest rates.
Debt consolidation could be right for you, but it is not a decision you should take lightly. Will you be taking out any form of debt consolidation to help you manage your debts?