Are you juggling monthly payments from multiple loans while struggling to make ends meet? You might be tempted to take out a debt consolidation loan as a solution to your debt problems.
If you have excellent credit and a reliable income source, a debt consolidation loan can be a great option. If you are looking for an unsecured personal loan we recommend the lenders below.
However, debt consolidation loans are not always the best choice. For instance, they can be expensive and risky if you have a poor credit history or an unreliable source of income. When you’re in debt, it’s essential to weigh your options carefully.
Before we look at alternatives to debt consolidation and whether it’s a good debt relief strategy, let’s discuss what a debt consolidation loan—and isn’t.
Why might you need debt consolidation?
Multiple creditors and unsecured debts
Juggling minimum payments from multiple creditors can seem overwhelming. Simply making minimum payments is not the best debt management strategy. So, a loan to pay off all or most of it in a single lump sum can be a tempting prospect.
High credit card debt
The most likely reason someone might be thinking about debt consolidation is that they’ve run up too much credit card debt and face multiple high credit card balances. You might be hoping that a balance transfer can get you a lower interest rate.
You may be especially tempted by the lure of a credit card balance transfer that promises rock bottom interest rates—at first. A balance transfer credit card might even offer to suspend payments for the first few months. For anyone facing debt problems, this might look like an immediate solution to money woes.
Multiple personal loans
It could also be that you’ve taken out high-interest payday loans, home equity loans, or other types of personal loans and unsecured debts that you are struggling to pay. You might be having trouble paying student loans and suspect a loan to pay off your other debts could help.
If any of these are the case, you may be wondering if it’s a good idea to take out a debt consolidation loan to pay off multiple loans at once with a lump sum.
Why should you consider debt consolidation loan alternatives?
For debtors struggling to pay off their debts, debt consolidation can be a great option. But it’s important to remember that it’s not always the right choice. When you’re already deep in debt, you should consider all your options carefully before choosing your path.
The allure of credit card balance transfers or a debt consolation loan may seem like a good debt management strategy. But before you bite on that low introductory interest rate or special loan offer, let’s consider how and why that may cause more debt problems in the long run.
Why might debt consolidation be the wrong choice for you?
You have bad credit
If you’re looking for a debt consolidation loan, you’re probably struggling with your monthly loan payments. You may even have missed a few payments already. Unfortunately, missed loan payments can do severe damage to your credit score.
So, you may be hoping that a debt consolidation loan can help you avoid more late and missed payments and rescue your credit score.
Bad credit usually means high interest rates
When you take out another credit card, this means yet another hit to your credit score on top of what you might have already taken from late or missed payment. And a lower credit score is going to mean higher interest rates later.
If your credit score drops low enough, you may be unable to qualify for a debt consolidation loan. Even if you are eligible, the interest rates and terms that you are eligible for may be less than competitive.
Debt consolidation loans typically have less flexible terms
Even for those who qualify, the repayment terms of debt consolidation loans generally include set monthly payments. Fixed monthly payments remove the temptation of just making the minimum payment, but they also provide less flexibility if you go through financial difficulties.
Secured debt consolidation loans put your property at risk
Many debt consolidation loans are secured with the debtor’s personal residence. Loans secured by a home usually have lower interest rates, but it is risky to attach unsecured credit card debt to your home. Visa can’t take your house if you don’t pay them back, but Wells Fargo or Bank of America can and will. Streamlined and reduced monthly payments may be convenient, but they’re not worth losing your home.
Before signing for a debt consolidation loan, review your circumstances, and research all of your options. Alternatives to debt consolidation include consumer credit counseling, debt settlement, and bankruptcy. The most advantageous option will depend on your individual circumstances and the type of debt that you have.
Let’s dig deeper into each of these alternatives.
Debt consolidation alternatives
Credit counselors are financial experts who help you get your finances under control. After looking at your financial history, they’ll work with you to design a plan that balances your expenses and debts with your income and goals.
The right credit counselor can help you to get your debts under control without the need of new loans. They can help you to evaluate other debt management plans, set a realistic budget, and save enough each month to comfortably afford your monthly payments.
Plus, credit counseling may be cheaper than debt consolidation. Credit counselors typically charge a low monthly fee (often around $50), while debt consolidation loans can cost you in origination fees, prepayment fees, and more.
If you can qualify, debt settlement is another great option to deal with your debts. If you’ve undergone a hardship (e.g., involuntary unemployment, a medical emergency, etc.), a debt relief company can negotiate with your lenders on your behalf to settle your debt for less than the full amount owed. This should both lower your monthly payments and reduce your total debt.
Of course, creditors have no obligation to accept your offer. Typically, they’ll only agree to settle your debt if they feel that you’re unable to pay off the amount in full. That said, hiring a competent debt relief firm certainly raises your chances.
Is bankruptcy a good alternative to debt consolidation?
Debt consolidation loans can be great if you can afford your monthly payments and are looking to streamline them. Likewise, if you have been making your payments consistently and have maintained good credit, you can score a great interest rate.
But what if you’re already late on your payments because you simply can’t afford them? If your income can’t stretch to cover your debt payments, a debt consolidation loan won’t solve anything. In this situation, declaring bankruptcy could be your best option.
There are several different types of bankruptcy, but Chapter 7 and Chapter 13 are the most common.
In a Chapter 7 bankruptcy, your assets are liquidated, and a court-appointed trustee is assigned to sell your non-exempt property to repay as much of your debt as you’re able. Any debt that remains after that liquidation gets discharged.
When you file a Chapter 13 bankruptcy, you’ll submit a repayment plan to the court. The plan typically spans three to five years and usually requires the full repayments of certain debts. This option is longer and more costly but does let you keep the property that you’d lose when filing a Chapter 7 bankruptcy. And once the payment plan is complete, all remaining debts can be discharged.
Not sure where to start? Talking to a credit counselor is a great first step. If it’s possible for you to pay off your debts on your current salary, your credit counselor can help you make a plan to do so. And if it’s not, they can help point you in the right direction — whether that direction is debt settlement, declaring bankruptcy, or applying for a debt consolidation loan.