The Oxford dictionary defines consolidation as the act of combining multiple things “into a single, more effective, or coherent whole.” This is the exact idea behind the consolidation loan, in which borrowers take out a single loan for the purpose of paying down their other outstanding debts.
The goal is to make repayment easier — since the borrower then becomes responsible for making one single monthly payment — and to reduce the amount of interest the borrower pays overall.
Debt consolidation sounds like somewhat of a no-brainer. Who wouldn’t want to make it easier and cheaper to get out of debt? It’s important to remember that while consolidation can reap those aforementioned benefits, it’s not a guaranteed foolproof plan.
Successfully consolidating debt requires doing your research, picking the best product for your situation and making lifestyle changes to ensure you can faithfully repay the loan. Here’s more on making the most of the consolidation process.
Compare Consolidation Loan Options
A wide array of financial institutions and lenders offer consolidation loans — including credit unions, banks and online lending companies. Just like you might shop around online before making a purchase to ensure you’re getting the product you want at the best price point, you’ll need to do some legwork comparing loans before even applying.
Three of the top factors to consider are the loan amount, loan repayment term and the annual percentage rate (APR) you can secure based on your credit profile. Be aware that a debt consolidation loan for bad credit is generally more costly than with good credit because lenders boost interest charges to offset the additional risk. Qualifying for the lowest APR usually requires good, if not excellent, credit — though there are generally options out there for the entire spectrum of credit ratings.
When you’re ready to apply, submit all your applications within the same short timeframe. This way, your credit score will only experience one “hard pull” for the entire shopping period, rather than experiencing a hard inquiry for each individual application — something that can damage your score.
Choose the Optimal Loan Term
A loan term that’s too short will leave you on the hook for high monthly payments, making it difficult to stay on top of your loan. A loan term that’s too long will reduce your monthly payments, but can actually increase the total amount you end up paying in interest — sometimes to the point you’d save money by tackling your current debts head on rather than consolidating.
Plug the numbers into a consolidation loan calculator to see how loan terms, monthly payments and APR interact before deciding on the best fit for your lifestyle — and be sure to commit only to the monthly payments you can feasibly make, or you’ll find yourself in financial hot water.
Avoid Racking Up More Credit Card Debt
Making the most of consolidation also requires a commitment to avoid racking up more debt, which can be especially tempting right after you’ve paid down all your credit card balances.
Some people physically destroy their cards or lock them out of reach; other people write down their goals to help them stay committed to getting out of debt. If you do need to use credit, buy only what you can afford to pay in full each month. Figure out what it will take for you to make the lifestyle changes needed to avoid digging a debt hole.
Getting the most from a debt consolidation loan means comparison shopping carefully, choosing the best-fit loan term and ceasing to amass more credit card debt until your loan has been repaid.