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From Wikipedia,
the free encyclopedia Debt
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.
Debt 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, debt consolidation companies can
discount the amount of the loan. 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.
Debt 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 cash flow paid towards the debt is lower allowing the debt to be paid
off sooner, incurring less interest.
Because of the theoretical advantage that
debt consolidation offers a consumer that has high interest debt balances,
companies can take advantage of that benefit of refinancing to charge very
high fees in the debt consolidation loan. Sometimes these fees are near the
state maximum for mortgage fees. In addition, some unscrupulous companies
will knowingly wait until a client has backed themselves into a corner and
must refinance in order to consolidate and pay off bills that they are
behind on the payments. If the client does not refinance they may lose their
house, so they are willing to pay any allowable fee to complete the debt
consolidation. In some cases the situation is that the client does not have
enough time to shop for another lender with lower fees and may not even be
fully aware of them. This practice is known as predatory lending. Certainly
many, if not most, debt consolidation transactions do not involve predatory
lending
Student loan
consolidation
In the United States, federal student loans
are consolidated somewhat differently than in the UK, as federal student
loans are guaranteed by the U.S. government.
[
USA
In a federal student loan consolidation,
existing loans are purchased and closed by a loan consolidation company or
by the Department of Education (depending on what type of federal student
loan the borrower holds). Interest rates for the consolidation are based on
that year's student loan rate, which is in turn based on the 91-day Treasury
bill rate at the last auction in May of each calendar year.
Student loan rates can fluctuate from the
current low of 4.70% to a maximum of 8.25% for federal Stafford loans, 9%
for PLUS loans.[The
current consolidation program allows students to consolidate once with a
private lender, and reconsolidate again only with the Department of
Education.[Upon
consolidation, a fixed interest rate is set based on the then-current
interest rate. Reconsolidating does not change that rate. If the student
combines loans of different types and rates into one new consolidation loan,
a weighted average calculation will establish the appropriate rate based on
the then-current interest rates of the different loans being consolidated
together.
Federal student loan consolidation is often
referred to as refinancing, which is incorrect because the loan rates are
not changed, merely locked in. Unlike private sector debt consolidation,
student loan consolidation does not incur any fees for the borrower; private
companies make money on student loan consolidation by reaping subsidies from
the federal government.
Student loan consolidation can be
beneficial to students' credit rating, but it's important to note that not
all federal student loan consolidation companies report their loans to all
credit bureaus.
UK
In the UK Student Loan entitlements are
guaranteed, and are recovered using a means-tested system from the students
future income. Student Loans in the UK can not be included in Bankruptcy,
but do not affect a persons credit rating because the repayments are
recovered from the students future salary at source by the employer before
any income is paid, similar to Income Tax and National Insurance
contributions. Many students however, are struggling with debt well after
their courses have finished
The level of personal debt in the UK has
also risen astonishingly in recent years:
"Total UK personal debt at the end of
February 2008 stood at £1,421bn. The growth rate increased to 8.9% for the
previous 12 months which equates to an increase of £111bn.
Concerns
In recent years, reports in the media have
raised concerns about the use of consolidation loans. The worry is that many
people are tempted to consolidate unsecured debt into secured debt, usually
secured against their home. Although the monthly payments can often be
lower, the total amount repaid is often significantly higher due to the long
period of the loan. Debt consolidation sometimes only treats the symptoms of
debt and does not address the root problem. In some circumstances,
snowballing debt may be a better solution.
There are other alternatives to a debt
consolidation loan, where unsecured debt is not "shifted" to secured debt,
but is eliminated through a settlement or payment plan. Debt consolidation
can be confusing for many people, so it is helpful to learn about all of
your options, and sometimes with the help of an advisor.
Debt
consolidation vs loans
The multiple options available to
consolidate ones debts can be quite confusing, credit counseling programs,
debt settlement, debt consolidation loans, bankruptcy are just a few options
available today. Trying to find the best option to suit your current
financial situation can be a difficult task.
Typically, debt consolidation programs are
debt repayment programs. They can consolidate most types of unsecured debts
from major credit cards to personal and student loans. You choose the
accounts you want to enter into the program when joining. Once enrolled, the
company will contact your creditors to negotiate more favorable repayment
terms on your accounts and possibly reducing your interest rates and it may
even eliminate late fees. You will then send that company one lump sum
payment monthly which they will disperse to the creditors you enrolled on
your account when joining.
Most so called debt consolidation loans are
just home equity loans in disguise. They use the equity built up in your
current home loan and use it to repay all of your unsecured debts. These
types of loan options usually come with heavy application fees and can
greatly extend the amount of time it will take you to pay off those debts.
These loans also convert all of your current unsecured debts into a secured
debt which is now backed by your home. If you fall behind on your payments
you could risk losing your property.
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