The average Canadian has over $70,000 in consumer debt. This could be a mix of loans, credit cards, or even a mortgage.
For many Canadians, trying to keep up with these debt payments is a challenge. It may be one reason you’re wondering what your options for debt reduction are.
You may be asking, “Is a debt consolidation loan a good idea?” It’s definitely one of the options you can consider. For some people, it might be the key to reducing debt and managing their finances wisely.
What Is a Debt Consolidation Loan?
A deb consolidation loan is a loan you can take to roll other debts together. Instead of paying several credit cards, term loans, and lines of credit, you can put all these debts together.
Combining your debts into one payment can have several advantages. If you have a good credit score, for example, you might be able to get a preferential interest rate.
That could help you lower your monthly payments. Some types of debt, like credit cards, usually have high interest rates. That increases your monthly payments, while also meaning less of your payment goes toward paying off the principle.
By consolidating your debt, you could lower your payments or pay your debt off faster. With lower interest rates, more of your payment goes to actually paying down the debt.
A debt consolidation loan can also lower your chances of missed payments. Since you have just one payment to remember, it’s more likely you’ll make payments on time. You may be able to synchronize the payment schedule with when you get paid to minimize the risk of missed payments.
Is a Debt Consolidation Loan a Good Idea?
Now you know the advantages of a debt consolidation loan. You’re still asking, “Is a debt consolidation loan wise?”
For some people, the answer is yes. A debt consolidation loan can be a great idea in some situations.
First, getting a loan to pay off debt makes sense if you have a good credit score. If your credit is still good, lenders will be more willing to give you a preferential rate.
If you have bad credit, you may not be able to score a lower interest rate. A debt consolidation loan might actually mean you end up paying more in interest. That’s not the goal.
It makes sense to take out a debt consolidation loan before your credit score takes a dip.
You Have Your Spending Under Control
Another key factor when you consider using a personal loan to pay off debt is your financial management plan.
Getting a loan may seem like a good idea, because it can free up existing credit. If you’re feeling squeezed, then the loan may make room on your credit card or a line of credit.
If you don’t have a plan to pay off debt or have your spending under control, you may find yourself in the same situation a few months later.
Essentially, a debt consolidation loan makes sense if you have a good handle on your spending. Consolidating debt makes it easier to manage payments and can help you pay debt down faster.
It won’t address larger problems, such as reckless spending, impulse buying, or living beyond your means. If you’re in debt because your monthly expenses routinely exceed your income, a loan won’t solve the underlying problem.
Before you consider getting a loan to pay off debt, you should look at your spending habits. Where can you trim or tailor your spending?
Create a Plan to Manage Your Debt
If you’ve already looked to your spending habits, you may be working on a debt management plan. A debt consolidation loan can be a great tool to help you manage debt more effectively.
Before you take out the loan, you should map out how you’ll pay off your debt in the next five years. If you put all your debts together, will you be able to manage the monthly payment?
If the answer is no, then a debt consolidation loan may not help you. In fact, it may only make your situation worse as you struggle to make payments.
When a Loan Doesn’t Make Sense
A debt consolidation loan may not make sense if you haven’t addressed the root causes of your debt, such as overspending. There are some other situations when a debt consolidation loan may not be worth it.
If you have a very small amount of debt, then a debt consolidation loan may not make sense. Generally, if you can pay off your debt within the next 6 to 12 months, you won’t save much from consolidating your debt. In fact, you may find that you end up spending more in fees.
A personal loan for debt consolidation also doesn’t make sense when you’re dealing with massive amounts of debt. If you can’t see a clear path to becoming debt-free or you’re not sure if you could manage it within the next five years, taking a loan may not be the best plan.
Instead, you may want to consult with a credit counselor who can help you get your affairs in order.
Prioritize Paying off Debt
If you’re considering a debt consolidation loan as part of a plan to reduce or pay off debt, then it makes sense to plan to prioritize debt payments.
You may want to consider using the debt snowball approach. Another method is the avalanche, in which you make minimum payments to everything except the highest interest account.
Either option can help you pay down debt and reach your goals faster.
Consider All Your Options
So, is a debt consolidation loan a good idea? It can be, provided you have a plan to tackle your debt. Addressing the root causes of debt and prioritizing debt repayment are key to using a loan successfully.
Getting the right lender on your side can also help. Learn more about how to choose the right personal loan for debt consolidation. Once you have the financing you need, you can watch your debt disappear.