When a person has a large number of debts, he will often attempt to refinance one or more of these debts, or else he will consolidate these debts into a single, large loan. Both of these actions are meant to help either pay less money on the debts or pay back the debts in a more manageable way. Both of these actions have advantages and disadvantages.
Consolidation Advantages
Perhaps the main advantage of debt consolidation is the simplicity it confers on the payment of debts. When a person consolidates a debt, he is paying a lender to buy up the outstanding balances on his old debts. In return, the borrower will agree to take on a new, larger loan. Sometimes, a person will be able to consolidate his debts in such a way that he will pay less per month than before.
Consolidation Disadvantages
Many times, the consolidated debt will be larger than the sum total of a borrower's original debts. This is because the debt consolidation company is trying to make a profit, either through interest or fees applied to the debt. This can actually add to the debtor's total debt loan, and can put him in greater financial trouble in the long term.
Refinancing Advantages
When a debt is refinanced, a lender agrees to purchase the debt from its current owner, paying off the remaining balance, and then issue the debtor a new loan with different terms. This new loan may carry a lower rate of interest or be structured so that the borrower is able to pay it off either faster or in smaller payment sizes than before. This can make the debt easier or cheaper to pay.
Refinancing Disadvantages
Not all loans can be refinanced. To refinance a loan, a borrower must find a lender who has enough confidence that the debtor will pay the loan back. In addition, refinancing is often expensive. A person taking out a refinanced loan will, in most cases, have to pay most of the same fees that he did when he took out the original loan. This may make refinancing uneconomical.
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