Debt Consolidation Loans
Do you need a solution for payday debt?
- Eighty percent of payday loans are rolled over or followed by another loan within 14 days of the first.1
- Seventy-five percent of payday loans go to borrowers who take out 11 or more of them annually.2
- Despite the fact that payday loans are only supposed to last two weeks or so, the average borrower has outstanding payday debt 199 days of the year.3
The solution seems obvious: if you’re buried in payday loan debt, pay it off. But in reality, that’s not how things work. With high interest rates and short repayment terms, payday loans stack the odds against you. And if you had the money in your budget to take care of them, you would.
Another option is a debt consolidation loan.
What is a Debt Consolidation Loan?
A debt consolidation loan allows you to pay off your outstanding debts—including debt from payday loans. Essentially, you combine (or “consolidate”) your multiple smaller debts into a single loan. The debt consolidation loan doesn’t make your debt disappear. However, it provides money to immediately pay off your outstanding balances. Additionally, instead of being responsible for multiple payments each month, you’ll only need to pay the consolidation loan.
While debt consolidation loans offer many benefits, there’s no guarantee that they’ll improve your financial situation. In fact, if you choose one that has a higher interest rate than your current debts, you’ll actually end up paying more. But if you find a consolidation loan that suits your needs, you can use it to streamline your payments and make your debt more affordable.
How does a Debt Consolidation Loan work?
Basically, a debt consolidation loan gives you money to pay off unmanageable debt. The trick, though, is to find one that offers a better interest rate or more favorable repayment term than your current financial obligations.
Before you get a debt consolidation loan, it’s important to take stock of your financial situation. Compare the interest rates on your current debts to those that a consolidation loan might offer. Carefully consider your needs, and then select a loan that meets them.
Once you receive your consolidation loan, you’ll use the money it provides to pay off your outstanding debts. At that point, your debts will be paid in full, and you’ll no longer owe money on them. However, you’ll be responsible for paying back the consolidation loan instead.
Why should I get a Debt Consolidation Loan?
Different borrowers get debt consolidation loans for different reasons. Some people like them because they reduce the number of payments they make each month. Other people like them because they offer lower interest rates than their current debts, or because they spread the costs out over a longer period of time.
Debt consolidation loans aren’t for everyone, but there are a few scenarios in which they might make sense:
- If you have so many different debts that you miss payments because you can’t keep track of them.
- If your debts have high interest rates and you find a consolidation loan that has a lower one.
- If your monthly payments are more than you can afford and a consolidation loan reduces them by spreading them out over a longer period of time.
- If you have debts in default and you can afford a debt consolidation loan that allows you to pay them off.
Who offers Debt Consolidation Loans?
Debt consolidation loans are offered by banks and credit unions. However, they typically have stringent approval standards. Low-interest rates are reserved for borrowers with good credit, and they’ll flat-out deny your application if your credit score is too low.
Where can I get a Debt Consolidation Loan with bad credit?
If you have bad credit and find that you’re shut out of traditional lending, you still have options. There are lenders who provide loans to subprime borrowers, though their rates are likely to be higher than those offered by banks and credit unions.
The key with a debt consolidation loan is to find one that meets your financial needs. If your outstanding debts have astronomical rates—like most payday loan debts do—a consolidation loan may be worth looking into if it makes your payments more manageable. So shop around and see who offers the best rates and terms. Borrowers with bad credit can get—and benefit from—a debt consolidation loan.
Are Debt Consolidation Loans bad for your credit?
No. On the contrary, if used properly, they can actually improve it by allowing you to pay off delinquent debts.4
However, if you choose a consolidation loan that’s just as unmanageable as your current debt, you’ll have just as much trouble making your monthly payments. This will have a negative impact on your credit score.
Is a Debt Consolidation Loan different than a debt consolidation plan?
Yes. But the two are often confused for each other, and this is typically why people think debt consolidation loans are bad for your credit.
Debt consolidation plans—which sometimes have disastrous consequences for a borrower’s credit score—are offered through debt management companies. Frequently, borrowers are advised to intentionally go delinquent on their debts and give their money to the company instead. The company then uses the funds to pay off the debt, but only after the borrower has missed payments.5
Missing payments will impact your credit score, even if it’s done through an official debt consolidation plan. In addition, some debt settlement companies have been known to scam their customers. They may try to collect fees before they settle your debts, and they may not explain the risks associated with their programs.
Debt consolidation loans are not the same as debt consolidation plans. For debt consolidation plans, the Federal Trade Commission advises borrowers to research settlement companies thoroughly and proceed with caution when considering one.6
If you’ve fallen into a cycle of payday loan debt, it’s easy to feel like there’s no way out. You face sky-high interest rates and unmanageable payment terms. And the more you fall behind, the worse it gets.
Cutting expenses and committing to a budget can free up money for payments. But if you find that you’re still in over your head, you might have to look elsewhere for help.
A debt consolidation loan will not make your debt disappear. (In fact, if you get one that has a higher interest rate than your current debt obligations, it’ll only make it worse.) But if used wisely, a debt consolidation loan can make your payments more affordable and help you avoid missing them.
Before getting a debt consolidation loan, be sure to take a hard look at your unique financial situation and do some comparison shopping. Debt consolidation loans aren’t right for everyone, but if you can find one that meets your needs, they just might be right for you.
1 Burke, Kathleen, et al. “CFPB Data Point: Payday Lending.” Consumer Financial Protection Bureau, March 2014, https://s3.amazonaws.com/files.consumerfinance.gov/f/201403_cfpb_report_payday-lending.pdf. Accessed 4 May 2017.
2 “Payday Loan Facts and the CFPB’s Impact.” The Pew Charitable Trusts, 14 Jan. 2016, http://www.pewtrusts.org/en/research-and-analysis/fact-sheets/2016/01/payday-loan-facts-and-the-cfpbs-impact. Accessed on 4 May 2017.
3 “Payday Loans and Deposit Advance Products.” Consumer Financial Protection Bureau, 24 April 2013, http://files.consumerfinance.gov/f/201304_cfpb_payday-dap-whitepaper.pdf. Accessed on 4 May 2017.
4 “Will Debt Consolidation Hurt or Help My Credit Rating?” American Institute of CPAs, http://www.360financialliteracy.org/Topics/Credit-and-Debt/Debt/Will-debt-consolidation-hurt-or-help-my-credit-rating. Accessed 8 May 2017.
5 “Settling Credit Card Debt.” Federal Trade Commission, Nov. 2012, https://www.consumer.ftc.gov/articles/0145-settling-credit-card-debt. Accessed 9 May 2017.
6 “Coping with Debt.” Federal Trade Commission, Nov. 2012, https://www.consumer.ftc.gov/articles/0150-coping-debt. Accessed 9 May 2017.
What You Need to Know about Consolidation Loans
Ann Logue, MBA, CFA
June 20, 2016
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