Debt Consolidation Loan

For individuals with credit in good standing the most common form of debt consolidation is the combining of all outstanding debts into one loan simply called a debt consolidation loan.  When you consolidate your debt there are several advantages:  Debt consolidation normally stops any further decline in your FICO Score and allows you to obtain a lower interest rate on your loan.  Upon receiving a debt consolidation loan a lender will usually charge a lower interest rate than a bank, credit card company, or any other debtor that previously had held your prior debt.  The lender has the ability to do this because he/she is obtaining all your debt which receives interest on a higher balance.

Example: Johnny’s outstanding debt is:

  • American Express $15,000 at 25% per month
  • Visa $5,000 at 15% per month
  • mortgage $50,000 at 5% per month
  • car payment is $10,000 at 10% per month.

As of today Johnny is currently paying $8,000 in interest per month on all his debts.  Johnny, who has fallen into financial distress due to extenuating circumstances, can still make a timely monthly payment under debt consolidation.  Thus, he may be offered a consolidation loan from a lender at 8% per month.  As a result, Johnny will pay $6,400 per month in interest instead of the original $8,000 in interest on the $80,000 of outstanding debt.  Johnny will save $19,200 in interest payments per year.

We have compiled of list of questions that you should ask any potential debt consolidation lenders.

Are there application fees for a debt consolidation loan?  Most likely there will be an application fee for a debt consolidation loan.  The borrower should inquire if their customer representative is working for a commission.  Usually, debt consolidation companies that pay their employees on a commission basis do not treat their customers as priority one.  In addition, you should be skeptical if the representative suggest they can decrease your unsecured loans.

When are payments due? When you consolidate you are combining all your outstanding unsecured debt into one loan with one company.  Therefore, you should be paying one monthly payment as you would with your bank, credit card company, or other lenders.

Interest Rate?  Your payment per month should be lower after you consolidate.  The lender may do this because he/she is obtaining all your debt and you are paying interest on a higher balance.  Always attempt to negotiate a fixed rate (unless you accept an “opened” loan).

Credit Rating?  Speak with your customer representative prior to signing any contracts for a loan.  Determine if the loan will negatively affect your FICO Score.  If the customer representative is unsure of this you most likely are not at the correct lending institution.  Always know if you credit score is affected.  Finally, you may want to seek legal advice prior to signing a contract.

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