If you have discovered this article, you may have heard of debt consolidation, but not be entirely sure how it works or where to get started. Debt consolidation loans are a great option for restructuring debt for many Canadians, reducing interest rates and simplifying payments without the need for more drastic forms of debt relief. In this article, we explain what debt consolidation is, and how it works. It can help you to organize and declutter various bills that you have, by allowing you to combine multiple different debts. Whether you have credit card debt, payday loans, or tax debts, streamlining them can make your finances much easier to manage and help you to stay on track with your payments. So, how does debt consolidation work?
What is debt consolidation?
Debt consolidation is quite simply the process of combining multiple separate debts into one. Usually, you will take out a new loan or line of credit in order to condense the other debts. The concept is that you will find another loan with better repayment terms or a lower interest rate. This will help you to gain debt relief sooner, without having to juggle multiple different payments each month at different interest rates. Debt consolidation is typically used for unsecured debts, or debts that have high interest rates. This makes it a popular choice for credit card debt. You can also consolidate debts including tax debt, personal loans, and payday loans. Debt consolidation loans are not, however, appropriate for secured debts including a car loan or mortgage as they are loans that use collateral as security and cannot be combined.
Why do people choose debt consolidation?
There are a number of reasons why Canadians choose to get debt consolidation loans:
- It simplifies their finances, consolidating multiple debt payments into one singular monthly payment
- It can save them money by reducing the interest rate, provided you can secure a new loan with a lower rate
- It can extend the repayment period you have, meaning your monthly payments are substantially reduced
- It can enable you to repay your debt much faster provided your interest rate drops and your monthly debt repayment remains similar so that more of your repayment can go towards the debt principal instead of the interest
How does debt consolidation work?
There are a few steps to the debt consolidation process:
- Make a list of all the debts you would like to consolidate to establish what you need to borrow.
- Calculate how much money you can put towards your debt consolidation loan repayment each month, to establish the loan term you are likely to need (i.e. 1 year or 2 years)
- Depending on your credit score, the interest rates on debt consolidation loans available to you will vary
- Once you have chosen a product that works for your financial situation, you can apply – but do read carefully over the eligibility criteria to ensure you would qualify
- As soon as you are approved for a debt consolidation loan, the funds will usually be deposited to you within a set period of time
- You then need to make your simplified monthly repayment for the agreed period of time, and you are free to enjoy an easier way of paying off your debts
Can credit card debt be consolidated into one?
Absolutely – many Canadians looking for a debt consolidation loan are looking to combine their credit card balances so that they are more manageable. Many individuals find themselves with multiple credit cards, often at high annual interest rates (AIR) of almost 20%. If you can secure a debt consolidation loan with an AIR of 8%, this could save you a lot of money in the long run. Debt consolidation loans should offer more favourable terms than the debts you currently have. You could secure, for instance, a lower fixed monthly payment to help you repay your credit card debts more quickly.
How are the interest rates of debt consolidation loans determined?
Debt consolidation loans have interest rates that are determined by two key factors – your credit score and the security collateral you can provide for the loan. Your credit score signals how easily you will be able to repay a debt in like with your loan agreement. The higher your credit score, the more confidence a lender can have that they will receive their repayment. Collateral for a debt consolidation loan can be used as security in case you struggle to make your repayments. This will usually take the form of something that can be converted into money quickly, like a property or vehicle. The better the security deposit or collateral that you can offer for the loan, the more favourable the interest rate you will receive.
Is a debt consolidation loan a good idea?
Many Canadians want to know if a debt consolidation loan is a good idea before taking one out. It is very dependent on your unique financial circumstances, but there are some key considerations to make before you go ahead and take one out. It can be thought that debt consolidation loans can promote poor financial habits. When you consolidate your debts, it can make you feel much better about your finances for taking action. It has a feel good effect when you can reduce the interest on your debt and simplify your debts into a single monthly payment. The issue is that many Canadians need debt consolidation loans because they have been spending beyond their means. Instead of addressing the issue at source, financial situations can deteriorate by continuing to spend. This can continue to impact credit scores and the ability to secure new credit in the future. Thankfully, there are alternatives to debt consolidation loans that may work better for you and your circumstances.
What are the alternatives to a debt consolidation loan?
In Canada, Licensed Insolvency Trustees are the only professionals in the country legally able to file all forms of debt relief. At Spergel, our expert team of Licensed Insolvency Trustees have been helping Canadians to reduce or eliminate their debt entirely for over thirty years. Debt consolidation loans are not the solution for all Canadians, so we support with a number of alternative debt relief options that might be right for you and your financial circumstances:
Filing a consumer proposal
A consumer proposal is a legal form of debt settlement, administrated with the support of a Licensed Insolvency Trustee. A popular bankruptcy alternative, consumer proposals can reduce your unsecured debts by up to 80%. It is the process of suggesting an affordable monthly repayment figure to your creditors, which your Licensed Insolvency Trustee will help you to negotiate. If accepted, you will only need to commit to making the manageable monthly payment for a period of up to five years. Consumer proposals have a number of advantages, including the ability to keep your assets and protection from creditors via a stay of proceedings. At Spergel, we have a 99% acceptance rate on any consumer proposals we file, meaning you have a 99% chance of reducing your unsecured debts by up to 80%.
Filing bankruptcy
Bankruptcy is the process of assigning any non-exempt assets you may have over to a Licensed Insolvency Trustee in exchange for the clearance of your unsecured debts. These assets are then sold, with any proceeds going towards your creditors as part of their repayment of your debts. Bankruptcy is the best pathway to a fresh financial future, and has advantages including full protection from creditors. At Spergel, unlike other bankruptcy firms, you are assigned your very own Licensed Insolvency Trustee to walk you through the entire debt relief journey, instead of being passed from person to person.
Hopefully now you understand ‘how does debt consolidation work?’ At Spergel, we can help you to understand whether or not a debt consolidation loan might be right for you, or whether an alternative form of debt relief might be more effective. Book a free consultation with Spergel – we approach each individual with compassion and understanding, and are keen to help. Reach out today – you owe it to yourself.
