Get advice from a leading debt specialist

Does debt consolidation always mean a loan?

2 February2010

Often, when people refer to `debt consolidation`, they are talking specifically about just one debt solution: a debt consolidation loan. However, the phrase `debt consolidation` can also be used to mean any debt solution that combines multiple debt payments into one (a major advantage of this is that managing one monthly payment should be much easier than making several payments).

However, each type of debt consolidation works differently, and each one is suited to people in different situations.

Debt consolidation: with and without loans

Debt consolidation with a loan

There are two main types of debt consolidation involving loans. They are:

Debt consolidation loan - simply put, this is a new loan taken out to pay off existing debts. This can make managing your debts much simpler. Another key advantage is that you can often reduce your monthly payments by choosing a longer repayment period than on your original debts. This is generally only suitable for people who can afford their current debt payments: the difference in your monthly outgoings is not likely to be big enough to really help you if you are struggling with your existing debts.

Debt consolidation remortgage - if you`re a homeowner, you may be able to take out a larger mortgage to clear your unsecured debts, basically using some of the equity in your home to pay off those debts. You will then owe the full amount (original mortgage + total value of unsecured debts) to your mortgage lender. And because it`s on your mortgage, you`re likely to find a much lower interest rate than you would if you took out a new unsecured loan. However, it`s particularly important to be sure you can afford the repayments, as your home may be at risk if you can`t make your repayments.

Note that repaying any debt more slowly can add to the overall cost, since it`ll be accruing interest for longer (although this may not be a factor if the new loan comes with a lower interest rate).

Debt consolidation without a loan

Two of the most common types of debt consolidation that don`t involve a new loan are:

IVA (Individual Voluntary Arrangement) - a legally binding agreement in which you`ll repay an agreed percentage of your debt to your lenders (as much as you can afford once your other costs have been considered), after which the rest will be written off. This will usually involve making monthly payments for five years (although that can vary).

Suitable for people with unmanageable debts who can`t realistically repay their debts in full, but can afford to commit to regular monthly payments.

Debt management plan - an informal debt solution that also involves making lower payments towards your debts. Similar to an IVA in that you`ll pay as much as you can towards your debts, but a debt management plan will continue either until your circumstances have improved, or until your debts are cleared.

Debt management can be appropriate for people who can`t afford their existing monthly payments, but could afford to repay their debt over a longer period of time.

Remember that both of the above debt solutions will involve breaking your initial repayment terms, and your credit rating will be affected. However, this may be something you`re willing to accept if it means your repayments become manageable.

By contrast, a debt consolidation loan (or remortgage) won`t damage your credit rating, and may actually help you protect it, since making - and budgeting for - a single monthly payment should be simpler, making it easier for you to make every payment.

For more information on different types of debt consolidation, click here or call 0800 195 2911 to speak to an expert debt adviser.

Fill in our form for free expert debt advice

Related resources:

Tags: debt, debt consolidation, loan, loan for debt consolidation, consolidation, debt solution, debt consolidation without loan, debt consolidation remortgage, IVA, debt management plan, debt management