Debt Consolidation Loans UK: How They Work & What to Consider
Managing multiple loans can be challenging. Missing payments not only hurts your credit score but also causes the debt to snowball. Reeling under the pressure of insurmountable debt, borrowers tend to consider several options. Consolidation is among them.
What Is a Debt Consolidation Loan?
A debt consolidation loan is a personal loan that you take out to pay off your existing debts once and for all so that you are left with only one debt to pay off over an extended period of time.
How does a consolidation loan work?
Suppose you have a £1,000 payday loan, a £2,000 bad credit loan and a £1,000 outstanding medical bill. Being on a thin budget, you are facing difficulty repaying them on time.
Fearing the risk of rollover due to the missed repayment, you decide to take out a personal loan of £4,000 to discharge all your existing debts in full. You still owe the same amount, but the repayment schedule is different. Before consolidation, £4,000 had to be paid back in a lump sum, but now the personal loan has spread the cost.
Consolidation combines various types of loans, including credit cards, but not mortgages. Since this method spreads the cost, budgeting makes payments easier. Debt consolidation loans in the UK can be secured and unsecured.
Debts you can consolidate
The following are the types of loans that you can consolidate through a personal loan:
- Store cards
- Credit card debt
- Overdrafts
- Payday loans
What are the benefits and risks of debt consolidation?
There are several advantages and limitations of debt consolidation:
| Benefits | Limitations |
| Consolidation simplifies budgeting. Instead of juggling multiple payments, you make only one fixed monthly payment. | Failing to meet your obligation on time will damage your credit score, lowering your chances of borrowing money at affordable rates down the line. |
| You will have a clear view of how much you owe, how much interest you will pay and how long it will take to discharge the whole debt. | Consolidation fees will increase the cost of the debt. Non-payment can result in a loss of your house if your house secures it. |
| You will save money on interest if you qualify for lower interest rates. You will need a good credit rating to secure attractive interest rates. | It is not always guaranteed that you will qualify for lower interest rates, nor is it guaranteed that all existing debts will be consolidated. |
What is the difference between secured and unsecured debt consolidation loans?
The main difference between secured and unsecured debt consolidation is that the former requires collateral while the latter does not. It is generally your house which is secured against a consolidation loan. Failing to settle your debt on time will result in a loss of your house.
Secured consolidation loans require you to consolidate a larger amount of debt, thereby hanging a tale.
- Collateral is not enough to increase your potential to qualify for a larger amount.
- Lenders will run affordability checks, which include the evaluation of your credit report and income sources. Lenders will decide on the maximum limit based on your income and priority debts such as mortgages, car loans and other instalment loans.
Can I get debt consolidation with bad credit?
Yes, you can. A bad credit score does not preclude you from submitting your loan application for consolidation. Some lenders may require you to put down collateral, though.
Before applying for debt consolidation loans for bad credit, make certain that the lender you apply to accepts applications from subprime borrowers.
It depends on their policy and your repayment capacity how much you will be able to consolidate. You can borrow between £1,000 and £50,000 to consolidate your debts. If your credit report is not stellar, you can borrow between £1,000 and £25,000.
What is the cost of a debt consolidation loan?
The cost of a debt consolidation loan depends on three factors:
- Interest rates: interest rates for consolidation loans start from 6.9%, and they could go up to 30%. Lenders decide interest rates based on your creditworthiness and repayment capacity. Unsecured debt consolidation loans charge slightly higher interest rates than their secured counterparts.
- Loan terms: longer repayment terms will reduce the size of monthly instalments, but you will end up paying more interest overall. Choose a repayment schedule which is neither too short nor too stretched.
- Extra fees: you will have to pay consolidation fees, which can be up to 5% of the total borrowing amount.
Before accepting the offer, make sure that you will not struggle with repayments of consolidation loans.
What alternatives can you consider to consolidation loans?
Consolidation cannot always be a suitable option for everyone. For instance, if you cannot secure a lower interest rate, you should drop the idea of combining your existing debts. Instead, consider alternatives:
- Balance transfer credit card
This enables you to move balances from multiple credit cards to a new balance transfer credit card. These cards come with a 0% intro APR for a specific time period. If you settle the whole debt within the introductory period, you can avoid paying interest. The promotion period generally ends between 18 and 24 months.
- Debt snowball
This method enables you to clear the smallest debt first while making the minimum payment to other debts. The snowball method is a suitable solution for those who need a motivational boost to keep going.
- Debt avalanche
This method enables you to repay a debt with the highest interest rate first while making the minimum payment to others. This strategy is aimed at those who want to save money on crippling interest.
How Loanchester helps by offering consolidation loans
Case study
John Smith from Manchester
The problem: John contacted us a few months back. In his application, he mentioned that he needed to take out a £7,000 personal loan. The purpose of using a loan was consolidation of other debts.
The solution: We contacted John and asked him to submit payslips and bank statements of the previous six months, along with details of the debt he owed. We checked his credit report to track his payment behaviour. We found some irregularities in his payment behaviour.
His credit report also revealed that he had recently taken out a car loan, although he had not missed any payments on that. Given that he had a long-term obligation, we were sceptical about his repayment potential.
He attributed irregularities in payments to job loss. Other than that, his credit report did not reflect any issues. So, we decided to approve his application. It has been six months since the consolidation loan was approved, and he has made payments on time so far.
Loanchester provides consolidation loans at lower interest rates than other mainstream lenders. We value our customers beyond their credit score.
Final Thoughts
Consolidation can be the best solution when you are struggling with multiple debt payments, but ensure that you qualify for lower interest rates and that it costs you less than handling individual debts.
FAQs
- Is debt consolidation cheaper?
Debt consolidation is generally cheaper than loans that are repaid within a short period of time in full. However, it is still advisable that you compare the total cost before jumping to any offer.
Interest rates are influenced by your credit rating and repayment capacity. If your overall financial standing is not positive, high interest rates are charged. As a result, savings on interest might not be noticeable.
- Does a debt consolidation loan clear my debt?
A consolidation loan itself does not reduce the debt, nor does it eliminate the debt. Consolidation shifts your debt by restructuring it into a new repayment term and interest rate. This can help clear your debts only if you make payments on time.
- Will debt consolidation improve my credit score?
Yes, it can improve your credit score provided you discharge the whole debt on time.
- Is a secured debt consolidation loan risky?
A secured debt consolidation loan is risky if you miss a payment. Because your house backs it, non-payment can result in losing your house.
- What should I check before applying?
Before applying for a debt consolidation loan, you should check interest rates, consolidation fees, your budget and your credit score.
John Milton is an experienced financial writer and personal loan expert with years of experience identifying the right category for people. He has been Chief Financial Expert at LoanChester in the UK and provides insights on the big deals of the lending institution. He is known for transforming the loan policies as per the unique needs of different borrowers. First, he focuses on what the borrowers require according to their favourable and adverse financial stances, and then he focuses on making a variety of personal loans affordable. John writes well-researched content on personal loans and also guides borrowers regarding their unique financial conditions. John holds a Ph.D. degree in banking and finance.
