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Debt consolidation: Can taking out a new loan help pay off existing debts?

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Nobody likes to wake up and see a pile of unpaid bills on their table. Yet, that’s the sad reality. The average American adult has around three credit cards and close to $6,000 debt per household. People usually pay a whopping 16.46% (average) interest rate on their card debts. While all of us would love to be debt-free, the presence of revolving lines of credit robs us of that freedom.

Credit cards can be efficient FICO score building tools if you can use them cautiously. Paying off credit card debts on time, every time, can enhance your credit score and help you qualify for better loan offers. However, not being able to pay off the same can lead to dire consequences and depreciating FICO score is just one of them. The average American adult has several debts including student loans, home loans, auto loans and myriads of personal loans he or she takes to make monthly financing easy. As a result, we often find ourselves with multiple outstanding loans with varying interest rates and different payment deadlines.

What is the necessity of debt consolidation?

Paying off debt to one lender is easy as compared to paying three different credit card companies, a couple of credit unions and banks on different dates every month. Such confusion often leads to lapsed payments and penalties. To cut through all this hassle, smart citizens go for debt consolidation. The process is quite simple. It involves taking multiple loans of varying interest rates and converting them into a single loan with a flat interest rate. In place of paying numerous lenders, the borrower ends up paying only one party at a time per month.

What is a debt consolidation loan?

The most common process of getting rid of multiple loan payments is through debt consolidation with a loan. It is the conventional method where a person takes out a new loan from a lender, bank or credit union at an amicable flat rate to pay off the entire bunch of unsecured debts he or she has pending. After he or she pays the entirety of his or her unsecured debts, he or she can pay off the new lender (the online lender, bank or credit union) according to the repayment terms. The repayment term for the typical debt consolidation loan is between three and five years.

When you apply for a new loan to pay off your consolidated debt, the potential lender checks your credit history closely. It is difficult for people with average or poor credit score to find low-interest rates. If you have an average or poor credit score, seeking online lenders for debt consolidation might be a better idea. Nonetheless, you should always ensure that the interest rate of the debt consolidation loan is lower than the cumulative interest you are paying on your credit card, payday loans, automobile loans, and home loans.

How to consolidate debts without taking out a new loan?

Taking out a new loan from another lender is not always a great idea, even when the interest rates are low. In certain situations, it is possible to pay off outstanding debt and reduce the monthly payments without applying for a new loan. Credible credit counseling and loan management agencies offer non-profit consolidation of debt through debt management programs. Going through non-profit debt consolidation does not require a person to take out a new loan or open a new line of credit.

In this case, these non-profit credit counseling agencies work in coordination with the credit card companies and personal loan agencies to reduce the monthly payments and interest rates through negotiations. It is imperative to work with a reliable and reputable credit counseling agency since the consumer needs to make the monthly payments to the credit counseling agency, which then forwards the money to the creditors. While the credit counseling agency might succeed in waiving the late fees and penalties, they might also impact the consumer’s credit score in the process. Additionally, it is a lengthy process. The typical debt management program takes between three and five years to eliminate outstanding debt.

What are non-profit debt counseling organizations?

Finding the right non-profit credit counseling or debt management organization can be challenging. According to reports, the best-performing and most reliable ones belong to the National Foundation for Credit Counseling (NFCC). Therefore, every debt management and non-profit credit counseling agency that works with the NFCC should have the Council on Accreditation (COA) authorization. It is an independent service that has recognized over 1500 non-profit and social service programs across the globe.

All non-profit debt counseling organizations take care of the consumers before lining their pockets, and they need to follow specific rules to adhere to their 501 (c) (3) non-profit status.

i. Their activities only serve the consumers and not their officers, board of directors, and other employees.

ii. The agency cannot make unrelated business income (UBI) from business or trade.

iii. These organizations are exempt from federal income tax. They must also report information every year as per the Internal Revenue Code.

iv. The organization must refrain from pro-profit activities to comply with the IRS application.

Visit Nationaldebtrelief.com to learn more about non-profit credit counseling organizations and their activities.

What are telltale signs of a credible non-profit credit counseling organization?

While knowing these facts will help you verify the credibility of your non-profit debt management cum credit counseling organization, you must also remember the cornerstones of these organizations.

i. Their representatives will help in the consolidation of several credit card bills and other outstanding debts into one monthly payment.ii. You can work with their representatives towards faster payment of your debts.

iii. The consolidation should help stop the payment collection calls from the different creditors.

iv. All late fees, penalties, and over-limit charges should go away.

v. They should be able to negotiate better interest rates without any deleterious effect on your FICO score.

vi. These non-profit credit counseling organizations should be able to provide you with a realistic budget and financial plan for the future.

vii. These agencies should charge no more than a nominal monthly fee of around $25 to $50 for managing your account. This fee should be significantly lower than the money you will be saving after availing their services.

viii. In many cases, the agencies charge the first month’s payment to their account.

ix. The agency will deduct all subsequent monthly payments from your checking account automatically.

x. You will have the right to check the listing fee, the time frame of debt clearance, eligibility rules, and new payment guidelines.

Debt management and consolidation without taking out a new loan is the perfect approach for many with poor FICO scores. It is an efficient way to reduce the monthly payments you make towards your outstanding lines of credit by settling for low and fixed interest rates. The official debt management agencies can negotiate better terms of payment, lower interest rates and more extended repayment period with credit card agencies and personal loan companies without affecting the FICO score of the consumer drastically.

What should you consider before taking out a debt consolidation loan?

Debt consolidation with the help of a new loan is never a good option for the reckless spenders. If you have three or four credit cards that you max out quite often, then you need to rethink before you can take out another loan. After all, you will still have another loan to pay. If you still plan to use your credit card for holiday shopping and buying clothes during sales, then debt consolidation loans are not going to help you.

Once you decide to go for a debt consolidation loan, you need to keep your revolving lines of credit aka credit cards aside and take a good look at your spending habits. Here are a few points you should consider if you are hoping that a debt consolidation loan can become your financial savior –

i. Are you on a strict fiscal budget? Are you ready to make a strict monthly financial budget and commit to it?
ii. Taking out a new loan to pay off old creditors – does that make any sense to you?
iii. Have you already done the math? Is the new loan going to cost you lesser than the outstanding debts?

iv. Will you be paying less per month? How much will you end up paying in total? Will the consolidation loan cost you significantly more in the long run?

v. What will be the new repayment period?

vi. What will be the payment terms for the new loan? Will you be making one payment towards the consolidation loan company only?

You must remember that debt consolidation can only work for you till a point. If your burden of debt has increased and you are in no way able to meet the payment requirements, then you may have to consider the harsher alternatives. Unless you are ready to commit to a monthly budget and reduce the credit card expenses, you will soon head towards debt settlement or bankruptcy. Debt consolidation is a remediation technique that works when the consumer has the money to pay off his or her outstanding debts but needs some help amalgamating the different payment amounts and interest rates.

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