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What is a Debt Consolidation Loan?

This is where an individual takes out a loan with one provider for the purpose of debt consolidation. The loan must be sufficient to repay all of their smaller unsecured loans and credit cards, and be left with just one monthly payment. Here are some key things to know about them:

  • Taking out a debt consolidation loan sometimes reduces the size of monthly repayments
  • These loans may extend the period of time you have available to pay off your debts
  • Because these loans may increase the amount of time over which you repay your debt, you may end up paying more than you would under the terms of the original credit
  • Consolidation loans may have higher interest rates than those associated with your original debts
  • Interest and fees are payable on a consolidation loan, and you will have to pay back the full amount
  • If you have defaulted on loan repayments in the past, your credit score is likely to be poor, so you will probably have to pay high interest rates on your consolidation loan
  • Consolidation loans often take the form of secured debt on your property; if you default on payments, your home will be at risk
  • A debt consolidation loan may be the right solution if you have a stable income and a good credit score. This is unlikely if you are struggling with unsecured debt
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Are you eligible for a consolidation loan?

Debt consolidation loans are not the right solution for everyone. You may be a suitable candidate if you meet the criteria below:

  • Have a stable job, hence a steady and consistent stream of income. This increases the likelihood of your being able to manage repayments
  • Be financially able to cope with the repayments should circumstances change, such as you falling ill, or interest rates increasing
  • Have a good credit rating. This will enable you to obtain the best rates
  • Have not consolidated debt with further credit in the past

If you are uncertain about your ability to pay off the value of your debt in full, a government scheme such as an IVA (Individual Voluntary Arrangement) or Trust Deed may be a more suitable option

 

These criteria are guidelines only – if you decide that a debt consolidation loan is the right choice for you, individual lenders will decide whether or not to grant you a loan on an individual basis. If your credit score is poor but you are a home owner, you may be able to take out a secured loan against your home. This should be carefully considered, however, as defaulting on payments puts your home at risk.

 

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Consolidation loan process

Each consolidation loan will be slightly different, but these are the basic steps to using one to become debt free:

  1. Search for the best deal

Many companies offer consolidation loans, so there are many options out there. Using a price comparison website could help you find the best deal for you – one with lower interest rates and over a term appropriate for you.

  1. Apply to the lender

Once you have found a suitable loan, the next step is to apply for it. You may need to provide proof of your income, in order to demonstrate your ability to meet the repayments. Your credit score will also be checked and taken into account.

  1. Use the loan to settle your existing debts

If you are approved, and receive the loan, the next step is to distribute it between your existing creditors in order to settle and close your accounts with them. This leaves you with only one creditor, who you will pay back, plus interest, in a single monthly instalment.

  1. Repay the consolidation loan

The final step is simply to keep up with your monthly repayments. If you are successful in doing so, you will eventually be able to clear your debts.

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Advantages

Debt consolidation loans are not suitable for everyone who is struggling with debt, but when used responsibly, they have a number of advantages:

  • A debt consolidation loan will have a positive effect on your credit score, provided you meet the monthly repayments
  • Consolidation loans are an informal solution, and not recorded on a public insolvency register. This means your financial situation is kept more private
  • You may have a longer time over which to repay your debts
  • The amount you pay towards your debts each month may be reduced
  • Provided you are able to keep up with repayments and do not incur any further unsecured debt, your unsecured debts will be repaid at the end of the consolidation loan term

 

 

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Disadvantages of a debt consolidation loan

As with any solution, debt consolidation loans also have some disadvantages:

  • You may not be eligible for a consolidation loan if your credit score is poor, and lenders feel your income is insufficient to make the repayments
  • If you do not keep up with the contractual repayments, then the lender can take action against you
  • You must repay your debt in full. None is written off, and interest is not frozen
  • You may pay more overall if you choose a consolidation loan, since the loan is repaid over a longer period of time
  • If you choose a secured loan, your home may be at risk
  • It may take a far longer time to pay off your debts than with alternative solutions
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Get Help & Advice

If you are unsure, and would like further advice concerning which debt solution might be right for you, one of our advisors can be reached on 0808 253 3433. Alternatively, you can text ‘ADVICE’ to 60060.

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