Debt consolidation involves taking out one loan to pay off many others.
This is often done to secure a lower or fixed interest rate, or for the convenience of paying only one loan.
How does it work ?
Debt consolidation more often involves a secured loan against an asset that serves as collateral, say a house. In that case, a mortgage is secured against the house. Deb Consolidation allows a lower interest rate than without it, because after consolidation, the asset owner agrees to forced sale of the asset to pay back the loan. The risk to the money lender is reduced so the interest rate goes down.
Here are some debts which you can eliminate through unsecured debt consolidation program or service:
- Credit card bills
- Unsecured loans
- Utility bills
- Hospital bills
- Payday loans
From above list, Debt consolidation is most advised when someone is paying credit card debt. Credit cards can carry a much larger interest rate than even an unsecured loan from a bank.
Any relation with credit score ?
Generally, the effect of personal debt consolidation on your credit score is better than that of bankruptcy. Unlike bankruptcy, a consolidation program does not destroy your credit rating. Rather it makes a positive influence on your credit score. If you're regular with your monthly payments on all your debts and do not incur any new debts, your score improves.
Is Debt Consolidation free?
No, companies providing debt consolidation service will charge you. After a written agreement is signed, a payment method is agreed upon, and the company has received minimum payment. Most companies charge some percentage of the money saved after debt consolidation.
