When should I use a personal loan to consolidate debt?

Hands holding five dollar banknote, isolated on whiteBeing in debt can be a significant financial burden, especially if you have multiple creditors to keep up with. If you’ve had enough of sending in multiple monthly payments, what you need is debt consolidation through a personal loan.

This strategy involves taking out a loan from a bank, online lender, or credit union. This loan is then used to pay off some or all of your existing debt, depending on how much personal loan you get and how much debt you have.

Thereafter, you can then focus your attention on repaying the personal loan. A personal loan is a useful tool because it generally comes at a lower interest rate than other types of debts like credit cards. Therefore, asides from streamlining your debt repayment efforts, a personal loan also helps you reduce the amount you pay in interest.

However, debt consolidation through a personal loan is not the solution to every debt woe. That’s why it’s important to know when it makes sense. In this post, we look at scenarios where this strategy may work.

You have a debt repayment plan.

As indicated earlier, debt consolidation through a personal loan will simplify the logistics of repayment as you get to focus on only one lender. It may also help you save on the amount you’ll pay in interest. But know this: Your debts aren’t going anywhere! You’re simply restructuring your debts!

This means that if you do not have a repayment plan for the personal loan, there’s no point in taking one. That’s why you have to ask yourself: would I struggle to make the new monthly payments? You have to be honest with yourself, so your efforts don’t end in disappointment.

If you cannot make repayments, you may have to consider other debt-relief options like debt settlement. And if your situation is dire, you might have to declare bankruptcy.

You have significant debt, but it’s not out of control.

Debt consolidation through a personal loan is ideal when you have a moderate amount of debt. If you can pay off your debt within the next five years or thereabout, then you should consider one.

On the other hand, if you can pay back your current debts within six months to 1 year, this strategy might not be worth it. Why? Because debt consolidation through a personal loan is supposed to help you save money in terms of interest. However, the interest savings in just six months to one year is not worth the hassle you’ll undergo to get a personal loan.

You’ve fixed your bad spending habits.

Many people get into debt in the first place because of their poor spending habits. Thanks to credit cards, living beyond your means is super easy. That’s probably part of the reason why you’re in your current financial situation.

Without getting your spending under control first, debt consolidation through a personal loan might worsen your situation. How? With your credit card debts cleared through the personal loan, you will have access to new credit, which you may max out again due to excessive spending. At the end of the day, you end up deeper into debts.

You have a good credit score.

One of the core reasons for getting a personal loan is so you can benefit from a lower interest rate. However, you will find it difficult to get personal loans at favorable rates without a good credit score.

If your current debt has damaged your credit score – probably because you’ve missed lots of monthly payments – then a personal loan will do nothing more than a lateral move in terms of your monthly interest payments. On the other hand, if you’ve consistently made at least minimum payments on your debts, then your credit score is probably high enough to secure a loan with a rate that’s lower than your current credit cards.

Ideally, a FICO score of 760 and above will improve your access to the best personal loans with the lowest, single-digit interest rates.

You have no access to 0% APR credit card offers.

While getting a loan at a low-interest rate is good, getting one at a zero interest rate is even better. If you can pay off your debts within two years and your credit is superb, then a balance transfer credit card might make more sense. It comes with a 0% interest rate for a specified period – typically 18 months – after which a high-interest rate is charged.

Therefore, if you manage to promptly pay off, you can use a balance-transfer credit to consolidate your debt. Again, you should not use this strategy if you cannot repay on time. If repayments extend past the grace period, then you’d pay very high rates in interest.

We understand the nuances and complexities involved in personal finance, and we are here to help. Contact us today to leverage the network of our knowledgeable staff.

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