Borrowing unsecured loans can be a great debt consolidation strategy. You can use the funds from that loan to pay off your original debts. That will leave you with one credit account to pay off each month.
The aim is to simplify your monthly debt payments so you will not feel too stressed. After all, juggling multiple credit accounts and making sure everything is paid off can be stressful. Consolidating debts can also lead to a lower interest rate so you can save some money on the overall debt that you are paying off. If that is not good enough, debt consolidation can even help improve your overall financial situation – including your credit score.
Using debt consolidation will give you better payment terms – but only if you choose the right strategy. As you may have guessed, there are many ways to consolidate debts. Using unsecured loans is just one of them. If you want to consolidate debts successfully, you have to make sure that you choose the right option that will suit your financial situation. Remember that it is not just about saving money or getting out of debt fast. You need to know what debt solution has the highest chance of completion based on your personality.
To help you make a decision, here are the basic things that you need to know about unsecured loans and how you can use it wisely to consolidation debts.
What are unsecured loans?
An unsecured loan is a type of debt that does not require collateral. That means you will not be putting any of your assets or possessions at risk. Collateral is usually used as a guarantee in case you fail to pay off the loan. That means it can help you get a lower interest rate on the loan you are borrowing.
Since unsecured loans do not use this collateral, do not expect that you will get the same low-interest rate as you would with a secured loan.
Types of unsecured loans
There are different types of debt that are classified as an unsecured loan.
- Credit cards. This is the most popular and dangerous type of unsecured loan. It has a high-interest rate and is also considered a type of revolving debt. That means as long as you do not reach the credit limit, you can keep on using it to borrow money. It is very easy to abuse this and accumulate a huge amount of debt. Most of the time, this is the debt that needs consolidating.
- Personal loans. Reports reveal that this debt is significantly rising – having the balance reaching $125.4 billion in quarter 2 of 2018. This is a 17.5% growth compared to the previous year. This type of debt can be used in any way you want. You can use it to go on a vacation, renovate your house, or pay off your debts.
- Student loans. This is a type of debt that is specifically used to pay for school-related expenses. It can be borrowed from the federal government or private lenders.
- Business loans. This is the money that you borrow to help finance your business. Sometimes, it is used as the start-up capital. It can also be borrowed for expansion purposes or to help support your cash flow.
Since there is no collateral to help you get a lower interest rate, you need to rely on other things to help you get the best terms for the loan.
To start with, you will need a good credit score. While you can probably get approval despite a bad credit rating, it will not have the best terms. It will most likely have a higher interest rate than what you could have gotten if you had a good credit score. When you have a good score, that means you are responsible for paying off your debts. That is a good sign for your loan application.
Another thing that they will look into is your income. Obviously, you should be able to afford all your payments. If not, then it doesn’t matter if you have a good credit score. You will not be able to afford to pay back what you borrowed. But if you have a stable income, there is a chance of approval.
How to use unsecured loans in debt consolidation
Now that you know more about unsecured loans, it is time to learn how to use it properly to consolidate debts. According to reports, consumers usually borrow personal loans to consolidate debts. It is the most common option especially people who do not want to use their home equity in debt consolidation.
While using unsecured loans is effective, there are a couple of rules that you need to follow to make sure that it will only bring you success.
Get only the amount you need
It can be tempting to borrow a lot of money – as long as you are approved to borrow that much. However, you need to stick to the amount that you need for debt consolidation. Do not borrow more because that will just lead you to pay more on the debt.
Get the lowest interest rate
Another thing that you need to do is to find unsecured loans that offer the lowest interest rate. This is how you can save money on the total debt that you have to pay off. If you cannot get a loan with a lower rate, then it does not make sense to consolidate your debts.
Get the shortest repayment period
Finally, you might want to get a loan with the shortest repayment period. When you have a short repayment period, you will be forced to make bigger monthly payments. Find out the biggest amount that you can afford to pay each month. Then get the shortest terms that you can find based on what amount you can commit to paying. The shorter the repayment period, the faster you can reach debt freedom and the more money you can save.