For many Canadians, a debt consolidation loan is an ideal alternative to filing for personal bankruptcy. If you still have a good credit score and steady income, a debt consolidation loan could be the solution to paying down your debt.
What Is A Debt Consolidation Loan?
A Debt consolidation loan is a private loan used to combine multiple debts into a single debt with one monthly payment.
If you owe $15,000 to three different unsecured creditors like credit card companies or bank loans, you could go to your bank or another lending institution, borrow $15,000 and pay off the three existing accounts. Your past debts are then paid in full and you’re left with one new monthly payment, to the consolidated loan provider.
Do You Qualify?
There are two types of consolidation loans – secured loans and signature only (unsecured) loans.
Secured Loans. In order to qualify for a secured loan, you need good credit and an asset
worth at least as much as the loan to ‘secure’ it. In our example, if you have $15,000 or more in equity in your home or car, you could use that equity to guarantee the loan. If your credit score has suffered due to financial difficulties, you may have to pay a higher interest rate.
Signature Only Loans. If you have excellent credit, you may get a signature only loan. Unlike secured loans, signature loans do not require you to secure the loan with an asset. A signature loan is guaranteed only by your signature. Signature only loans are uncommon and often involve higher interest rates.
What Kinds of Debts are Included?
You can use your consolidation loan to pay off any outstanding debts. Once the loan funds have been received the money is yours to use as you deem fit.
What are the benefits of debt consolidation?
Convenience. One of the major advantages of debt consolidation is convenience. Instead of juggling creditors and writing multiple checks each month, you’ll only need to write one check to your loan provider.
Potential Savings. If your credit score qualifies for a lower interest rate, you have additional opportunities to save. By paying one payment each month, it’s likely you’ll free up some extra discretionary income. You may avoid late payment and over the limit fees as well.
Check with your loan lender for prepayment penalties. If the loan terms allow, use some of this ‘extra’ money to pay your loan back faster and save even more.
Improve your credit score. With fewer bills to manage there are fewer opportunities to pay your bills late. On-time payments are a critical component of your credit score. With only one bill to pay each month, building up a new history of on-time payments can get you on the road to improving your credit score quickly. In addition, a debt consolidation loan won’t show up as a negative entry on your credit score like a consumer proposal or bankruptcy.
Stop collection calls. A consolidation loan can put a stop to harassing collection calls. While this type of loan doesn’t provide legal protection against creditors in the way that a bankruptcy or proposal does, if it allows you to pay your balances in full, there will be no need for collectors to contact you. Be sure to submit your loan payment on time each month to avoid calls from your lender. Once you’ve paid off your debts, be sure to check your credit report to ensure that it’s been updated to reflect your new zero balances.
What are the disadvantages of debt consolidation?
You Still Owe the Debt. A consolidation loan does not actually provide debt relief. It provides relief from the payment of debt. You still owe the entire amount. You’ve just restructured the way you pay it back, which may make it easier to afford and manage the payments.
Your secured asset is at risk. If you fail to meet the terms of your loan, the asset you put up as collateral for the loan will be at risk of repossession.
You haven’t fixed the root of the problem. Something got you into trouble with credit in the first place and a debt consolidation loan doesn’t address the root issue. In fact, a consolidation loan can get you into even more trouble if you don’t improve your credit management skills.
Now that you’ve paid off your credit cards, your credit card statements show a zero balance. You have wide open lines of credit that might be tempting to use. For some unfortunate borrowers, these lines of credit become too tempting to resist and they start to use the cards, racking up new debt. The only difference now is that you still have your consolidation loan to pay and your home or other secured asset is on the line.
Credit counseling can be a great companion to debt consolidation so you can avoid the same financial pitfalls that got you into trouble in the first place.
It may not actually save you money. While you might be paying less each month, the overall cost of your loan might end up costing you more. A lower interest rate on a larger amount over a longer period of time might add up to more than if you just paid your credit cards individually. If it’s month to month relief you’re looking for, a consolidation loan might work for you. Do the math and compare which option works best for you.
Make Your Consolidation Loan Work FOR You:
Here are some tips for ensuring a debt consolidation loan works for you instead of against you:
1. Don’t wait to investigate a consolidation loan.
2. Calculate the total repayment cost of the loan against the cost of your existing credit accounts.
3. Learn more about the proper use of credit.
4. Cut up excess credit cards and limit yourself to one card.
5. Prepare a personal budget and stick to it.
How Personal Bankruptcy Canada Can Help
A debt consolidation loan may seem like a great way to deal with mounting debt, but it can be a double-edged sword. You may be back in financial trouble a few years after taking out the loan. For best results, discuss your situation with a bankruptcy trustee to explore this option. Make certain debt consolidation is an optimal fit before pursuing a consolidation loan. PBC provides a network of carefully selected Member Trustees who offer free initial consultations. Don’t take chances with your financial future. Review your finances in detail with a trusted professional. There is no obligation and no judgment. At PBC, we help good people eliminate bad debt.