Debt consolidation can be the rescuing hero to many financially over-extended Americans. Your first task in deciding if this measure is the right one for you to take in your present situation, is to gather the statements of all your loans and credit cards together and list the names, balances owing, and interest you are paying. Then you will need to determine if you could take out a loan with lower interest than you are already paying. Though the convenience of making one payment a month is tempting, there really is no point in taking out another loan for that purpose alone.
A debt consolidation loan combines your outstanding debts into one loan, which hopefully has a lower interest rate than you are currently paying. These loans are usually offered to homeowners and come in the form of Home Equity Lines of Credit (HELOC) or Home Equity Loans (HEL) where your property will be held as security against the loan. The lender will have a lien on your house until you pay off the home equity loan in full. It is essential to shop around to obtain the best rate possible. It is also clear to see how important it is to make sure your credit is in fairly good shape before you apply for one of these loans.
Though using your home to secure a consolidation loan is the fastest and easiest way most people go about solving their credit woes, there are other options. Here is a brief explanation of each type of loan:
An added bonus for using this type of loan is that it is tax deductible
Consider utilizing a home equity loan to consolidate your other debts into one. As mentioned above, this can help you overcome debt and free yourself from financial prison, so to speak. You will have just one monthly payment, designed to be lower than the sum of all your previous outstanding debts. As an additional benefit, your lender can oftentimes pay the other debts for you with the funds from a home equity loan. When it comes to out-of-control debt, a home equity loan can be a good solution for many people. An added bonus for using this type of loan is that it is tax deductible.
Low or zero interest credit cards can offer a way to consolidate your debt, especially if you don't own a home. The credit card companies sometimes offer low interest or zero interest loans to lure customers into signing up with their company or to coax competitors' customers into transferring their balances. Be aware, however, that though this may sound like a good idea, many times the credit card companies only offer this option to consumers with very good credit. Also, be diligent about taking into account the terms you are agreeing to. Here are some pitfalls to look out for:
Personal debt consolidation loans are another way to gather those unruly bills into one manageable payment. This type of debt consolidation loan bundles your existing debts together and presents you with one payment without requiring collateral such as a home. Here are some facts, pros and cons, to consider:
Take a look at the habits that got you into debt before you consolidate
Each time you apply for a consolidation loan, the lender will likely run your credit report. That will usually mean that an inquiry will be reported to the credit bureau(s). Inquiries take two or more years to naturally drop off your report, and according to the FICO website, inquiries are factored into the "New Credit" category which is 10% of your total FICO score.
You can see that cleaning your credit reports before you apply for a consolidation loan makes a lot of sense. If you prepare in advance, you will avoid both a loan turndown, and unnecessary inquiries showing up on your credit reports.
Be sure to take a look at the habits that got you into debt before you consolidate. Paying off credit card debt by taking out a Home Equity Loan or Home Equity Line of Credit, and then continuing your old charging habits, can put your home at risk.