Credit consolidation entails taking out one loan to pay off many others. This is often done to secure a lower interest rate, secure a fixed interest rate or for the convenience of servicing only one loan. Credit consolidation can simply be from a number of unsecured loans into another unsecured loan, but more often it involves a secured loan against an asset that serves as collateral, most commonly a house. In this case, a mortgage is secured against the house. The collateralization of the loan allows a lower interest rate than without it, because by collateralizing, the asset owner agrees to allow the forced sale (foreclosure) of the asset to pay back the loan. The risk to the lender is reduced so the interest rate offered is lower.

Sometimes, the amount of the loan may be discounted. When the debtor is in danger of bankruptcy, the debt consolidator will buy the loan at a discount. A prudent debtor can shop around for consolidators who will pass along some of the savings. Consolidation can affect the ability of the debtor to discharge debts in bankruptcy, so the decision to consolidate must be weighed carefully.

Credit consolidation is often advisable in theory when someone is paying credit card debt. Credit cards can carry a much larger interest rate than even an unsecured loan from a bank. Debtors with property such as a home or car may get a lower rate through a secured loan using their property as collateral. Then the total interest and the total payment towards the debt is lower allowing the debt to be paid off sooner.

Credit card debt consolidation could also mean moving the balance from your high interest credit cards onto a single card with a lower interest rate. For instance, if you have about $200 on each of your credit cards that have interest rates between 11 percent and 22 percent and you move those balances onto your third card which carries a 5 percent interest rate, the money you are saving on your interest payments to the other credit cards will allow you to whittle down the principle on all of your credit card debt. Of course, in order to make this really work, you need to cut up your old high interest credit cards.

For this to work, it is important to think strategically. What that means is to find the lowest rate instruments. For homeowners, it may be prudent to pursue a refinancing option first. As for renters, (if you’re not a homeowner), you may want to look for balance transfers or teaser rates on new cards to pay down your other debts. It is advisable to shop for the lowest interest rate – not the lowest payment. Methods of calculating minimum payments differ, and some that offer lower monthly payments may just be stretching out your repayment, costing you more in the long run.

However, it may be advisable to read the fine print and know the terms and actual costs you might incur when choosing this option. You may focus solely on the annual percentage rate (APR) charged on a credit card and ignore balance transfer fees, annual fees, late fees, over-the-limit fees and other costs that may be associated with using the credit card. You may want to look for whether balance transfer fees are capped. Invariably, there will always be fees involved. You may want to read about everything before you decide what to do. Once you are armed with information, you can then consider bargaining for the best deal.

There could be another reason to consider consolidating credit cards. There is some value in using one or two cards to consolidate purchases. Reducing the number of credit cards you have helps simplify your monthly budget and financial management routine. When you get your statement at the end of the month, it’s a lot easier to do that with a few accounts rather than getting several statements.

You may want to consider your own money management styles when determining which credit cards to keep. If you are a person who pays off your balance in full every month, then the benefits of the card and annual fees may become more important than APR. If you don’t, then APR moves up to the top of the list for things to look at on the card. You need to do an honest assessment of what type of card user you are and then choose a product that best matches up with that type of use.

Hence, if you are at the end of your credit rope or are confident that this time you’ll be more disciplined, credit card debt consolidation may be something to consider despite its risks.

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Category: Finances
Keywords: credit consolidation,credit card debt consolidation