Credit card consolidation loans are one of many options for consumers trying to pay off their debt. For those who have multiple unsecured debts, it could be challenging to pay them off without help. This is where debt consolidation comes in, since it combines all of your unsecured debts into a single loan. We will explain the process of paying off debt consolidation loans and how it compares to a debt management program.
How do payments on credit card consolidation loans work?
When you take out a debt consolidation loan, all of your unsecured debts are combined into one monthly payment. Rather than paying each of your creditors individually, you only pay the company through which you took out the loan. From there, the company distributes the payments to each of your creditors. This makes it easier for you to keep track of your finances. An added benefit is that the interest rate of the loan is probably lower than the interest rates on your credit cards, so you could be saving a significant amount of money.
You might be wondering what impact this has on your credit. Like any loan, as long as you’re paying it on time, you should see your credit score increase. However, if you miss a payment or pay late, you will see your score drop. Additionally, any time you apply for a loan or new line of credit, there may be a slight drop in your credit score.
Credit Card Consolidation Loans vs. Debt Management Programs
An alternative to debt consolidation loans is a debt management program. Debt management consolidates your unsecured debts into one monthly without having to take out another loan. These programs are administered by nonprofit credit counseling agencies, not banks or other for-profit financial institutions. The payments in a debt management program are lower than what you would be paying on your own. This is because the credit counseling agency negotiates lower interest rates and fees with the creditors.
Though a debt management program does not involve taking out a new loan, it can still help you improve your credit score. As you pay down your debt through a debt management program, your credit utilization rate goes down. Having a credit utilization rate below 30% can help to improve your score. American Consumer Credit Counseling also offers free financial education resources to those enrolled in their debt management program. Learning healthy financial habits, like budgeting, can help you get your finances back on track and stay on track, even after you finish the program!
Debt Relief Companies to Avoid
Though there are many reputable companies that offer credit card consolidation loans or other legitimate forms of debt help, not all companies can be trusted. Consumers trying to pay off debt need to be especially careful of debt settlement companies. Debt settlement companies offer what sounds like a good deal upon first glace. With debt settlement, you only have to pay a fraction of the debt that you owe. For example, if you owe $10,000 in debt, a debt settlement company might tell you that you only have to pay $7,000. It sounds like you’re saving $3,000, which would be great! Unfortunately, when you settle on a debt, your credit score will drop significantly. Having a settlement on your credit report shows future lenders that you can’t be trusted to pay back what you borrow. The amount that you save by settling can also be counted as income by the IRS, so there’s a good chance you will be taxed on it. Overall, debt settlement is not a good idea.
If you are struggling to pay off debt, ACCC may be able to help. Sign up for a free credit counseling session with us today!