Interest rates key to debt consolidation loans

A person takes out a debt consolidation loan in order to clear his/her existing debts. A debt consolidation loan consolidates all his/her outstanding debts into one single loan that is used pay off the other debts. In this case, the person is required to make only one payment each month. It appears to be a perfect solution to your debt problems. But this is not as simple as it looks. You should consider a number of factors including your own specific situation before you decide to go for such a loan.

Interest rates hold the key

While debt consolidation loan may be ideal in some cases, it may not be so for some others. For those who are keen on lowering their overall interest rates, debt consolidation may prove to be a good choice. A single consolidated debt eliminates the need to pay multiple interest rates. By consolidating their debts, they put all of their loans into one simple payment. In this way, they pay only a single interest rate and save some money in the process.

However, in some cases, their total interest payments might well exceed the credit cards or loans they had been paying for. To check out if this is the case, they have to study the loan amount, the interest rate and the term. If the term is long enough, they might in the long run end up paying more in total interest, although the interest rate and monthly payment is lower. Put differently, debt consolidation is not an appropriate option in this case.

Different loans and their interest rates

Moreover, debt consolidation loan does not always come with a low interest rate. Much depends on your credit score in this regard. If you possess several credit cards, you are most likely to miss or delay payments, resulting in a low credit score for you. And once you have a low credit score, the lender can charge you any rate of interest they like. In a secured debt consolidation loan where some sort of collateral is involved, the interest rate may be less than your credit card interest rate. But you should think again if the consolidated loan has interest rates of 18% - 29%. An unsecured loan carries higher interest because of the risk involved. So, you should choose it only if the new interest rates are not too high and you don’t have to pay more than you would for your each separate debt.