4 Instances Debt Consolidation Loans Can Plunge You Into Further Debt
Updated: May 6
If you have multiple debt accounts with high interest rates, you may be considering taking a debt consolidation loan. Choosing the right one can simplify your finances through a singular fixed monthly payment, helping you save in interest in the process. However, it’s crucial to be aware of some issues that can occur when taking a debt consolidation loan, especially if you take one for the wrong reasons. Doing so can plunge you into further debt, making it more challenging to repay.
Debt consolidation loans aren’t rare, as their goal is to merge numerous loan balances into a new loan. Personal loans, retirement account loans, home equity loans, and balance transfers are popular sources of loan consolidation funds. However, they can backfire in certain situations, so it’s crucial to study your circumstances carefully before taking the loan. Here are four instances in which debt consolidation loans can go wrong:
When They Have a High Interest Rate
If you have a strong credit score, then you’ll benefit from getting a consolidation loan, as you’ll likely qualify for a loan with a low enough interest rate. However, if you have a credit score below 580, then you’re probably going to get a loan with a high interest rate. In fact, interest rates might go up to 35.95 percent with terms of 36 or 48 months, which would balloon your monthly payments. A consolidation loan would make sense for your situation only if the interest rate is lower than the rates on the loans being consolidated.
When Extending Your Repayment Period is Costly
Lowering monthly repayments is often the goal of those taking out a consolidation loan, so it may be tempting to choose the most prolonged repayment period. After all, the longer the repayment period, the more affordable the monthly payment, allowing the borrower to save a bit more in the process. However, there’s a catch: the longer the repayment period, the more interest you’ll end up paying.
Even though short-term consolidation loans are more expensive at the outset, they’re ultimately cheaper than long-term loans due to the lower interest rate. To avoid taking on more debt than you can handle, consider taking the shortest-term loan available.
When Your Collateral is at Risk
If you aren’t confident about paying your consolidation loan on time and in full every month, that means you’ll have to use personal property as collateral, which means you’re putting them at risk. For example, an unpaid home equity loan will lead to foreclosure, which will cost you beyond your initial debts. As much as possible, avoid taking out loans that require using personal property as collateral since you may very well lose them.
When the Loan Won’t Fix Your Spending Habits
Sometimes, the debt you’ve accrued wasn’t due to your spending habits but because of circumstances beyond your control. These include a sudden debilitating illness, loss of employment, or a pandemic. In these cases, debt consolidation loans will help you get out of your situation. However, if you accumulated the debt due to bad financial behavior like spending more than you earn, not developing a budget, or pushing it to the limit every month, then getting a debt consolidation loan won’t do you any favors.
Taking on new debt without significantly improving your relationship with money will only worsen your financial situation, especially if you’re just getting by with your income. Unless the debt consolidation loan resolves the cause of your debt, you’ll likely continue the habit of spending more than you can afford. Fortunately, you can fix this by consulting a financial advisor, which will improve your approach to money.
Debt consolidation loans are often a great way to simplify your payments and eliminate some of the headaches associated with it. However, there are some instances where these loans can worsen your situation. By familiarizing yourself with them, you’ll make better, more informed decisions for you and your wallet.
Opelika Finance offers same-day loans in Opelika with clear, straightforward repayment plans to help individuals afford what they need without worrying about burying themselves in more debt. Whether you hope to build credit or consolidate your credit, we’ve refined the borrowing process to make it quick and simple. Contact us today to learn more about how we can help you find the best debt consolidation loan!