Debt management is something many people in the UK struggle with. Why? Because reliance on credit cards, finance payment schemes and personal loans means high-interest rates that lead to further borrowing. And this debt repayment cycle often makes people feel like they’re taking one step forward and two steps back.
According to a Daily Mail report in 2022, the average UK household had £16,200 in unsecured debts, such as credit cards, personal loans and overdrafts.
The BBC also released a shocking 2018 report on debt-related suicide attempts. Research shows that around 100,000 people attempt to take their own lives each year as they cannot deal with debts.
While Debt Consolidation Loans are one of the most effective ways to pay your debts and get back on track financially, these loans don’t magically remove your debts, and they still require a great deal of management.
In this guide, we’ll explore other ways to get back on track by consolidating your debts and sticking to the plan.
What are debt consolidation loans?
Debt consolidation loans help individuals manage their outstanding debts by combining all accounts into one standard repayment. When you apply for a loan, you’ll receive a lump sum that you can use to repay any outstanding debts.
Depending on the borrowing terms, you’ll repay the agreed amount with your loan provider. Some people make repayments over one or two years, while others prefer a longer repayment plan.
The different types of debt consolidation
In general, there are three main types of debt consolidation, and the one you choose will depend on personal circumstances and the amount you can afford to borrow.
Personal loans are the most popular form of debt consolidation. Also known as unsecured loans, they’re usually repayable over one to five years, depending on the amount you borrow.
However choosing the longest term might reduce your monthly payments, but it will also mean you pay back more in the long term.
Most people borrow between £1,000 to £25,000, but some providers have minimum and maximum amounts, so doing your research is essential.
Balance transfer credit cards
Balance transfer cards allow you to move all your debts to one account, making paying off your credit cards easier. As a debt management solution, balance transfers can be ideal as you can focus on priority debts and avoid interest rates.
However, the maximum amount available on a balance transfer card depends on your income and credit history. Also, failing to pay the balance off will result in more debt and increasing interest rates.
On the plus side, most balance transfer cards offer 0% interest for a specific time, making it easier to pay off the balance.
Home equity loans
If you’ve built up a decent amount of equity in your property, you could apply for a home equity loan and use it for debt consolidation. The amount you can borrow usually depends on your equity, and these loans often come with low-interest rates.
However, using your home as security when taking out a loan could also put you at risk of losing it if you frequently miss repayments.
The pros and cons of debt consolidation
As with all financial arrangements, debt consolidation is a decision that requires a lot of consideration. While there are plenty of benefits associated with these loans, they can also spiral out of control if not managed properly.
Before deciding, you should weigh up the following pros and cons:
Pro: Easy repayments
Managing numerous debts with various interest rates, payment amounts, and due dates can be a stressful – and confusing – experience. Debt consolidation allows you to simplify your repayments because there’s just one monthly payment with a set interest rate.
Pro: Better interest rates
If you have long-standing debts, the monthly interest is probably high. Many consolidation loans come with lower interest rates, which allows you to save money over time. Also, if you choose a faster repayment period, you can decrease the amount of interest.
Pro: Boost your credit score
Credit debts often mount up when the interest rates increase, but your financial situation stays the same. Over time this can negatively impact your credit score, but debt consolidation loans are easier to manage. If you regularly meet the monthly repayments, it will boost your credit score.
Con: False sense of security
Some people get a consolidation loan, clear their credit cards and then begin spending on them again. A false sense of security can quickly mount up further debts and result in financial difficulties. Not only will you have to pay the loan off, but also new balances on credit cards you’ve just cleared.
Con: Potential loss of assets
As some forms of debt consolidation require borrowers to offer an asset such as property equity, there’s always a potential risk of losing your home. Proper loan management will negate this risk, but it’s important to consider whether you can afford the monthly repayments.
Con: Impact on credit scores
All loans will initially negatively impact your credit score because lenders perform a hard check to evaluate your eligibility for debt consolidation. Paying the loan off each month and not defaulting on your payments will build your score, but mismanagement could have serious implications for your credit file.
Choosing the right debt consolidation loan for your needs
Consolidating your existing borrowing can alleviate any money worries and help you recover financially. However, with various options for clearing your debts, it’s important to consider which suits your needs.
Assess your situation
Your circumstances will ultimately define which loans are available for your needs. You won’t be eligible for a home equity loan if you’re not a homeowner.
People with multiple credit cards and high spending amounts could have limited balance transfer options or experience exorbitant interest rates on the cards they can apply for.
Look at the costs involved with the loan
Before jumping into an agreement, evaluating the interest rates and fees that come with loans is vital. Balance transfer credit cards often charge fees on the amount you transfer, while home equity and personal loans can have arrangement fees.
Know what you’re getting into
All loans come with risks; understanding them will ensure you make the right decision. Defaulting on personal loans and credit cards often leads to court judgements and bailiffs, while home equity loans can put your property at risk.
Get professional advice
An often overlooked way to find the best consolidation loan for your needs is to contact a professional loan broker for advice. Not only do brokers have access to specialist lenders, but they can also discuss your financial affairs and help you arrange a loan that gives you lower interest rates and security.
6 Top tips for paying back your loan
Once you secure a debt consolidation loan, you can relax knowing that all your debts are combined into one monthly payment. However, you’re not in the clear yet, and failing to manage your loan correctly can result in serious consequences.
Following these tips ensures you stay on track with your repayments and gradually improve your financial situation.
1. Pay your debts with a direct debit
Most loan providers ask you to set up a direct debit so they can automatically take the money you owe each month. The direct debit will be for a set amount, and it’s the best way to stay on track with your loan, as you won’t have to worry about planning your repayments.
2. Ditch the credit cards
The last thing anyone wants is to get into more debt. When you get a consolidation loan, your primary focus should be paying it off – not spending more. Clearing your credit cards makes it tempting to put that weekly grocery shop or those new clothes on your account, but that leads to more financial problems.
By focusing on your consolidation repayments and leaving your credit cards alone, you can finally become debt free.
3. Cut back on unnecessary spending
Avoid unnecessary spending to ensure you have enough money to repay the loan. Look at your monthly outgoings for subscriptions you don’t need and save money on household bills by switching providers.
Comparison websites such as Uswitch can save you hundreds of pounds yearly by making small changes. Saving money by reducing the amount you eat out or order takeaways will also improve your finances.
4. Create a strict monthly budget
Monthly budgets allow you to look at how much money you have going in and out of your account each month so that you can adjust your spending accordingly. Some people find these budgets invaluable, enabling them to maximise available income by making changes.
Once you know how much money you have spare, you can set a strict limit for groceries, clothing and any luxuries.
5. Figure out the why behind the what
OK, you know how much you owe and what you have to do to become debt free—but why did the debt problem happen in the first place? Understanding how you manage money can help you avoid getting into financial difficulties in the future.
Some people struggle to budget, while others waste a lot of their income on unnecessary expenses. Debt problems are common in the UK, but learning about your spending behaviour can make a huge difference in how you manage money.
6. Boost your income
If you’re worried about your budget, boosting your monthly income is always possible. Some people choose to work overtime, taking extra shifts when they can, but you could also explore a side hustle that gives you the flexibility of working from home.
Whether it’s freelancing or selling items, there are plenty of side hustles to choose between, and they can set you on the path to financial freedom.
Debt consolidation can be the best way to regain control over your finances
With all its benefits, debt consolidation offers borrowers a realistic way to pay back the money they owe and look forward to a brighter financial future. While some pitfalls are associated with consolidation, understanding how to manage your repayments can help you get back on track.
Once you repay the loan, you can look forward to boosting your credit score and opening up future borrowing options.
If you’d like to discuss whether a consolidation loan is the right option, please call our professional advisors. During your consultation, we’ll learn more about your current debt and suggest which consolidation solutions might suit your circumstances.
Believe Loans is a professional broker with a track record of helping our clients access deals from specialist lenders. Our dedicated team will support you with every step of your application, so get in touch today and don’t let debt keep you down.
What are the alternatives to debt consolidation?
If you feel you’d struggle with a consolidation plan, other debt solutions are available. However, these also come with drawbacks.
Debt Management Plan (DMP)
Debt Management Plans are agreements between borrowers and creditors to pay back debts at an affordable rate. However, your creditors might not agree to the plan and demand you keep up with the repayments.
Individual Voluntary Arrangement (IVA)
Individual Voluntary Arrangements are formal agreements between borrowers and creditors to pay off a portion of debts over a fixed period.
This option can avoid bankruptcy, but you’ll need to enlist the services of an insolvency practitioner. IVAs also negatively impact your credit score for around six years.
Debt Relief Order (DRO)
Debt Relief Orders are for people with low income, few assets, and relatively low debts. A successful application will freeze interest rates on all your debts for a year, giving you breathing space.
You won’t have to pay anything towards your debts for this period, and if your circumstances don’t change, the debts are written off. However, DROs do negatively impact your credit score.
Bankruptcy is a legal process that can help you eliminate your debts if you cannot repay them. However, it severely affects your credit file and limits future financial options. Most people do everything they can to avoid filing for bankruptcy.
Can I consolidate all types of debt?
You can consolidate many unsecured debt and non-priority debts, including:
- Credit debts
- Store cards
- Personal loans
- Medical bills
- Personal lines of credit
- Utility bills
However, in most cases, you can’t include council tax and rent or mortgage arrears in consolidation agreements, as they’re called priority debts and must be paid off first. If you can’t clear any arrears or keep up with your mortgage payments, exploring another debt solution is best.
I’m struggling to focus on my debts and have mental health issues. What can I do?
If you’re having mental health crisis treatment or are in the care of a community mental health team, you could get some breathing space from having to pay debts.
An AMPH (approved mental health professional) will refer you to the Mental Health & Money Advice service, where you can receive support to learn about money management and balance regular payments with your essential living costs.
You can find out more through the Mental Health & Money Advice website.