Knowing what to expect from any debt elimination strategy is half the battle in achieving success. As founding father Benjamin Franklin once warned, “By failing to prepare, you are preparing to fail.” Doing the legwork before you act can save you a lot of confusion, frustration and expense when it comes to consolidating debts.
You’ve probably heard about debt consolidation loans, which are a form of personal loan borrowers used to address unsecured debts with high interest rates — like credit cards. This bundles multiple debts into one to make payment more convenient, and it has the potential to reduce the amount of interest needed to pay off debt.
Here’s what to expect from a debt consolidation loan.
When to Consider a Debt Consolidation Loan
How can you know if you’re a potential candidate for a consolidation loan?
According to NerdWallet, buyers meeting these criteria may find it beneficial to consolidate:
- Your debts total less than 40 percent of your gross income (not counting mortgages).
- Your credit rating allows you to qualify for a consolidation loan at a low interest rate.
- Your income will reliably cover monthly debt payments.
- You’re confident you can avoid accumulating new debt while paying back the consolidation loan over a period of months or years.
Ensuring you’re a good fit for one of the various forms of debt consolidation will help you improve your chances of success.
Getting Approved for a Debt Consolidation Loan
What is the process like for getting approved for a consolidation loan?
Here are some of the key factors lenders will consider when evaluating your loan application:
- Credit Rating: Lenders will look closely at your credit score and payment history when determining whether or not to grant you a loan. Marks like late payments and high levels of credit utilization act as “red flags” to lenders.
- Debt-to-income ratio: To find your DTI, divide your total monthly debts by your gross monthly income. Different lenders have different DTI requirements, but in general a high DTI signals to lenders you may become overwhelmed by your debts because your income won’t comfortably handle them.
- Other factors: Lenders also take into consideration other circumstances like employment and cash flow.
Anything you can do to optimize your credit report before applying can help increase your chances of approval as well as help you secure more competitive interest rates. Start by checking your credit reports from the major three bureaus — Experian, Equifax and TransUnion — to ensure they are error free. Dispute any errors you find. Try to shore up delinquent accounts. Pay off as much of your debt as you can to bring down your credit utilization ratio. Keep making faithful payments on your current debts.
Using a Debt Consolidation Calculator
To make sure you’re going to come out ahead with a consolidation loan, use a calculator to find how much you’ll pay in interest over the life of the loan and how much you’ll be expected to pay per month. Then you can compare these figures to what you’re paying on your debts now. Depending on the interest rate for which you pre-qualify, you may or may not decide to proceed with consolidation.
Speaking of interest rates, what average interest rate range can you expect on consolidation loans? According to data from Value Penguin, while the average rate is approximately 18.5 percent , the range extends from 8 percent to 29 percent.
The more you know about what to expect from a debt consolidation loan, the better prepared you’ll be to have success with one.