A guest article from StepChange
When you’re dealing with debt, a consolidation loan can seem like a smart idea. The adverts make it sound all so simple: who wouldn’t want to roll all their debts up and make one single monthly payment?
What the adverts neglect to tell you is that debt consolidation can often cost more in the long run. There are also other factors to take into account, such as the temptation to borrow again or that you may be putting your house at risk. That’s why we’d always recommend you consider all of your options before signing the dotted line.
Why should I be wary of debt consolidation?
You may feel that we’re being overly cautious when it comes to consolidation loans. After all, it can seem like a logical choice on the surface: rolling all of your debts up into one monthly payment, only having to deal with one creditor…what’s so bad about that?
In order to help you understand our stance on debt consolidation, let’s take a look at the various pitfalls you need to consider.
- You could be putting your house at risk: Many debt consolidation loans are granted on the proviso that the debt is secured against a property. Doing this means that the lender has a greater chance of getting their money back if you can’t pay, as they can seek to repossess your house. That consolidation loan that was meant to fix everything has now become a second mortgage of sorts.
- You may need to factor in broker fees: Some companies offering consolidation loans are loan brokers. This means that they don’t lend you the money themselves, but track a loan down for you with another company. Naturally, this service comes with a fee, which will be added on top of the money you owe at the moment.
- You may already be living beyond your means: Many people considering a consolidation loan have found themselves using credit for daily living expenses, which indicates that their expenses outweigh their income (A red flag to look out for is regularly using credit cards to pay for food shopping). Struggling to cover daily costs is a sign that you need free debt advice, and not to take out more credit than you can’t afford.
- Consolidating can suggest that you borrow to the max: Quite often, consolidation loans are recommended to people who’ve borrowed right up to the limit of what the banks can responsibly lend. Borrowing to this extent can leave you with debts that can be quite difficult to pay back, especially if you have to deal with an emergency expense or reduced income. It also suggests a tendency to rely too much on credit.
- You might be tempted to borrow again: Once you’ve cleared the balances on your credit cards and overdrafts using the consolidation loan, it’s easy to start using them again. The trouble with this is that, if you were struggling with the credit card payments previously and you were to spend again, you’ll be adding more monthly payments on top of the consolidation loan you now have to cover. It’s not hard to see how things might go awry again.
Surely consolidation loans can’t be bad all the time?
Not necessarily. If you’re struggling, a consolidation loan may be viable in some circumstances. That said, it’s really important that you get clear, in-depth advice on what course of action is right for you before you commit to a loan.
Debt consolidation calculators will often help you find the best deals for consolidating your debts. We also have a debt consolidation calculator, but it’s a little bit different. Rather than try to persuade you to consolidate your debts, our calculator helps you understand whether it’s actually a good option for you in the first place.
If you do decide to apply for a consolidation loan don’t over-commit and borrow more than you can afford. Use your budget to help you work out how much surplus money you have.
If it’s unmanageable interest that’s making you consider a debt consolidation loan, moving to a credit card with a long-term 0% balance transfer deal could be better. If you do this, remember to cut up that old card, shut that account down and don’t spend on the new card AT ALL.
Your local credit union may also be able to offer you an alternative to consolidation.
For more detailed information on debt consolidation, check out the guide on our website. For free and anonymous online debt advice, use our Debt Remedy service to put together your own personal debt action plan.