Debt Consolidation vs. Personal Debt: How Are They Different?

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You could consider a debt consolidation loan or a personal loan to pay off a higher interest rate loan. Find out how they differ. (iStock)

If you have a high-interest loan, you may want to consider consolidating it so that you only have to worry about one monthly payment, and you can save on interest.

Although debt consolidation can be a solution, it is not for everyone. Here's what you need to know about debt consolidation versus personal debt.

You can learn more about debt consolidation loans and personal loans, and compare rates with Credible from multiple lenders.

What is the difference between a personal loan and a debt stabilization loan?

Although you may hear or read about debt consolidation loans as if they were different products from personal loans, the two are basically the same thing. The main difference is that debt consolidation debt is specifically for repaying and consolidating existing debt, whereas personal debt can be used for a variety of purposes, including new debt repayment.

Personal loans

Personal loans offered by banks, credit unions and online lenders are flexible, meaning you can use them for anything you like, including paying off high-interest loans. If you withdraw one, you will already receive a single amount, ranging from several hundred to tens of thousands of dollars, or more.

After that, you will repay the loan on a fixed term with interest and fees. Factors such as your credit score and income will determine whether you are approved and what rate the lender offers you. Because most personal loans are unsecured, you don't have to put your home, car or any other assets on the line.

Debt Consolidation Loans

Debt consolidation Debt is a personal loan that is used to combine multiple loans into a single loan, ideally with the interest rate you are paying on the loan you want to consolidate.

How it works: You will apply for a personal loan for the amount owed on your existing loans. Once you are approved, you will use the funds to pay off your debt. After that, you will finally be able to repay the new loan on the agreed payment term.

Debt consolidation loans are secured and can go up to tens of thousands of dollars or more.

What are the benefits of debt consolidation loans?

Debt Consolidation Loans come with a number of benefits, and if you have multiple high-interest loans, such as a credit card balance, this may be a good idea.

Low interest rates - If you are eligible for a lower interest rate than you are currently paying on your loans, you can save thousands of dollars in interest.

Easy way to repay the loan - By combining multiple loans into one loan, you will reduce the number of payments each month and simplify the repayment process.

Improve Credit - A debt consolidation loan can reduce your credit utilization ratio (how much of your available credit you are using) and increase your credit score.

Monthly payments can be reduced - if you spread your payments over a new, longer loan period, you can reduce your monthly payments and clear cash each month.

What are the disadvantages of debt consolidation loans?

Debt consolidation loans also come with some potential drawbacks, including:

Not a solution to your financial problems - If overspending contributes to your actual debt, debt consolidation debt does not guarantee that you will never go into debt again.

Advance Fees - Depending on the lender you choose, if you repay the loan early, you may face advance fees, such as loan start-up fees and prepayment penalty fees.

Possible higher rates - Unless your credit is in good shape, there is a chance you will have to settle for a higher interest rate than you like. However, your new personal loan rate may be lower than the credit card interest rate.

Missing payments can lead to more problems - if you miss out on payments on your debt consolidation loan, you may have to pay late fees and insufficient funds, which can increase your borrowing costs. Will give And, missing or late payments can affect your credit score.

When Should I Choose a Debt Consolidation Loan?

Debt consolidation debt is not always a good idea. If you do not have a high interest rate loan or you do not have the budget to pay your monthly payments on time, it can do more harm than good. Also, if you can't secure a loan at a lower rate than what you are currently paying, it probably doesn't make sense.

Also, if you have bad spending habits and you are not able or willing to change them, a debt consolidation loan will not work. For example, if you accumulate more debt on the cards you repay, for example, your financial situation may worsen.

Will Debt Consolidation Loans My Credit Score?

While debt consolidation can improve your credit in the long run, it can also temporarily damage it. When you apply for any new credit, the lender will likely conduct a rigorous inquiry, which may reduce your credit score by a few points.

Because opening a new account, such as a personal loan, can temporarily lower your credit score, you may also experience an additional reduction when you take out a debt consolidation loan.

The good news is that making timely payments can help restore and ultimately improve your credit score. In addition, debt consolidation loans will reduce your credit utilization ratio and may even improve your credit.

How do I qualify for a Debt Consolidation Loan?

Every lender has its own unique needs for borrowers who are interested in debt consolidation loans. But most lenders will point out factors such as your credit score, income and debt-to-income ratio to determine your chances of repaying your loan.

Although lenders generally prefer borrowers with the best credit, there are debt consolidation loans for bad credit. Just keep in mind that these loans usually come with higher interest rates which can increase the total cost of your loan. If you have bad credit or fair credit, you may have to apply with a cosigner or submit collateral.

How do I choose the best debt consolidation loan?

Not all debt consolidation loans are created equal. That's why it's important to shop around to find the right option for your unique situation. When you do this, consider these factors.

Interest Rates - The lower the interest rate you can lock, the better. If you have a good credit score, you may be eligible for a very good rate that saves you a lot of money in the long run.

Loan Amount - Some lenders offer higher loan amounts than others. Estimate how much you need to borrow to pay off your debts, and look for lenders who can lend you that amount. Avoid the temptation to borrow more than you need.

Terms of payment - If low monthly payments are your goal, then long term terms are the best bet for you, but you can pay higher interest on the life of the loan. On the other hand, if you want to pay off your debt as soon as possible and save on interest, look for short-term repayment terms. A shorter term will reduce the total cost of interest but can mean a larger monthly payment.

Fees - Some lenders charge a fee, such as an initial fee, a late fee, and a prepayment penalty. Make sure you know how much they will cost you before you sign up for DotLine.

Collateral - Although most debt consolidation loans are unsecured and do not require collateral, there are secured loans that do. If you are eligible for an unsecured loan, you do not have to risk your property or vehicle as collateral. But if you are looking for a debt consolidation loan with bad credit, you may need to secure it.

If the lenders you receive allow you, you will want to pre-qualify for debt consolidation loans. This will make it easier for you to compare your options to your credit without any tools.

Debt Consolidation Loans - Getting a Debt Consolidation Loan, Even With Poor Credit

If you decide that debt consolidation loans are not right for you, here are some other ways to manage your debt:

Debt Snowball Method - Debt Snowball Method is a DIY debt relief strategy in which you have to pay off your smallest debt first and then pay off the next smallest debt you are paying. They apply it. You continue this cycle and build speed or "snowballs" until you get out of debt.

Debt Avalanche Method - While Debt Avalanche Method is also a DIY strategy, it focuses on saving money on interest over time. With the avalanche of debt, you first pay off your debt with the highest interest rate and then move on to debt with the next highest interest rate.

Balance Transfer Credit Card - With Balance Transfer Credit Card, you can transfer high interest credit card debt to a 0% interest card for a limited time, as long as you pay the transfer fee. After the introductory period, you will have to pay the outstanding balance with the standard card interest rate, which may be higher. Be aware, though, that you usually need the best credit to qualify for a 0% card.

Home Equity Line of Credit (HELOC) - A HELOC allows you to borrow money in return for equity in your home. Like a credit card, you can borrow more or less than a certain amount and put it into your debt. But this method puts your home at risk because it protects HELOC.

Cash Out Refinance - A cash out refinance replaces your existing mortgage with a new one that is greater than your outstanding balance. You can make a difference and use it to consolidate your debt. Again, tapping your home equity to consolidate the debt turns unsecured debt into something that is secured through your home. Consider all the pros and cons before taking this path.

Debt settlement - Debt settlement occurs when you or a company negotiates with your creditors and lenders to pay less than you owe. If you follow this path, your credit score will likely drop.

Credit Counseling - With Credit Counseling, you work with a credit counselor to create a debt management plan, or DMP. DMP can lower your credit card interest rates, but can also have a negative effect on your credit.

Bankruptcy - Bankruptcy involves going to federal court to have your debts either repaid or re-arranged. Since it can take years for your credit to recover after bankruptcy, this should be the last resort to get out of debt.

Comparable purchases with Credibles can help you find a debt consolidation loan that is right for you.