Pros and Cons of Debt Consolidation

What is a Debt Consolidation Loan

A debt consolidation loan can be termed as a credit creation facility that is used to pay off previous debts of the borrower along with interest. In a debt consolidation loan, borrower indeed borrows a loan, to pay off all previous loans and debts. The consolidation loan is then returned by the borrower along with interest. Many a times the borrower is in debt to several lenders due to multiple loan borrowing like car loan and a home loan. The consolidation loan is used to pay off all these multiple borrowings so that the borrower is not indebted and burdened by many loans for a very long time.

The debt consolidation loan can be secured or non secured loan. In case of a secured loan, borrower has to pledge some valuable asset to the lender. If the total amount of debt that has to be returned is huge, then the borrower may have to pledge more than one asset. Lenders usually prefer to secure debt consolidation loan with an asset. Cases of non secured consolidation loan are rare. In such cases the borrower happens to have a secure source of high income or is supported by a guarantee. The debt consolidation loan are however not easy to come by. The banking and finance organizations follow many strict laws, rules and regulations before availing this facility. Some lenders prefer to calculate the total cost of previous debts and the interests charged on them. Then the lenders calculate the amount of credit that they are willing to offer and then quote the amount along with the interest to the applicant. During the process of sanctioning, the lenders examine the credit history of the applicant. The lending organization also gets in touch with the applicant's bank and credit card companies. If the applicant is married or has children, then the first relatives credit history is also taken into consideration. The rate of interest of this loan is low and time period that is permitted is long, which helps the borrower to repay the loan. Debt consolidation loan is very helpful in cases of multiple debts, however there are certain pros and cons.

Pros

Debt consolidation loans are very helpful if they are used to pay off multiple debts of small amounts like credit card debts. The loan is also suitable to pay off multiple consumer loans. The biggest advantage of the debt consolidation loan is the low rate of interest. This low interest enables the borrower to save up money in the course of repayment and also make timely repayment. Due to this, the late fees is avoided and though the repayment stretches over a huge span of time. The second biggest advantage is that the people can avoid bankruptcy by availing this loan. The consolidation loan also does not affect the calculation of credit rating and it also does not have any effect on the credit history of the borrower in future.

Cons

The number of disadvantages of debt consolidation loans are certainly less as compared to the advantages. A commonly seen disadvantage is that the borrower sometimes ends up paying much more in the long term as the rate of interest and time period are stretched over a time span of several years. Another disadvantage of the debt consolidation loan is that the borrower remains in debt for a very long time. When the process of application is going on the borrower sometimes has to pay the previous lenders an amount of penalization fees.

The pros and cons of the debt consolidation loan also tend to vary from case to case, however, before applying or accepting the sanctioning of it, one must always read and understand all the rules and regulation of the loan.