This article originally appeared on Nectar Mortgages and has been published here with permission.
In this day and age, it’s quite normal for someone to be making repayments on several loans at any given time. Car loans, credit cards, student loans, mortgages, personal loans, the list goes on. Keeping track of the interest rates for each loan and all of your payments can turn into a real headache. Fortunately, there is a way to make things a little easier for yourself; debt consolidation.
If you have several different loans and are having a hard time keeping on top of them, then debt consolidation might be just what you’re looking for. It can be a great way to help you simplify your finances and potentially reduce your overall monthly payments.
Interested? Read on and find out what debt consolidation is, how it works and whether it’s the right option for you.
What Is Debt Consolidation?
Put simply, consolidating your debt means combining multiple debts, such as a car loan and two credit cards, into one loan with one regular repayment.
The Different Debt Consolidation Loan Types
Debt consolidation loans come in several types:
- Secured debt consolidation loans: This is when you provide an asset like your home or car to secure the loan.
- Unsecured debt consolidation loans: This is when no asset is provided for security. Depending on your lending and credit history, this loan type may be harder to apply for and tend to have higher interest rates to offset the increased risk to the lender.
- Combining debts into your mortgage: The remaining balances of your different debts are added to your mortgage and you continue making one regular repayment (see example below).
The Advantages
Debt consolidation can be a real money-saver if you have multiple debts with high-interest rates.
Through debt consolidation, you basically roll all your debts into one neat package. This means you get rid of the chore of paying different amounts, with different interest rates, at different times, and are instead paying a single amount, with a single interest rate, once a month or fortnight.
Usually, the interest rate of this new single loan will be lower than the average interest rate of all the previous loans put together, meaning your repayments will be lower too.
Let’s take the example of a debt consolidation where you’ve combined your debts with your mortgage.
| Current Debt | ||
|---|---|---|
| Loan | Balance | Payment |
| Mortgage (5.1%) | $350,000 | $1,932 |
| Credit Card #1 (16%) | $8,000 | $240 |
| Credit card #2 (18%) | $7,000 | $210 |
| Car loan (9%) | $17,000 | $353 |
| TOTAL | $382,000 | $2,735 |
| The Same Debt Consolidated | ||
|---|---|---|
| New loan | New balance | New payment |
| Mortgage (5.1%) | $382,000 | $2,074 |
| Credit Card #1 (16%) | $0 | $0 |
| Credit card #2 (18%) | $0 | $0 |
| Car loan (9%) | $0 | $0 |
| TOTAL | $382,000 | $2,074 |
In this scenario, by absorbing the two credit cards and car loan into the mortgage the borrower could save $661 per month in repayments – not chump change!
The Disadvantages
Like everything in life, there are a few potential disadvantages to debt consolidation. Combining smaller debts with your mortgage means you’re adding to your total loan value. Because a mortgage is a long-term debt, in rare instances you could end up paying more over the long run than individually paying off your smaller debts over shorter time periods. A mortgage broker can help you calculate both scenarios and steer you in the right direction.
Another thing to consider is if you take a secured loan and have used your home as collateral, then in extreme circumstances, you risk losing your home if you default on your payments.
Perhaps the most important point to keep in mind is that debt consolidation is meant to help make your financial situation easier and free up some credit. However, if you take on more long-term debt by adding to your mortgage, you could end up paying off the loan for longer than you’d like. So, make sure you weigh all the options with a mortgage professional before taking on a debt consolidation loan.
Things You Should Do Before Deciding
You should always read the fine print when you’re applying for any new loan. Many loans come with some type of loan processing fee and penalties for early repayments. Before you make your final decision, it’s a good idea to talk to a broker and get their opinion. You can ask them to:
- Help you calculate if you’ll be paying more or less overall with a debt consolidation loan.
- Shop around and look for the right loan for you.
- Go through the terms and conditions with you.
Contact your friendly Whiteroom Finance mortgage broker for some advice. They are always ready to lend you a helping hand.
