Is it Good Financial Practice to Consolidate With an Unsecured Loan?

A consumer choosing to use debt consolidation faces a variety of choices. While there is no easy answer as to what kinds of debt consolidation loan is best for everyone, choosing an unsecured loan does have advantages and disadvantages. You should speak to a credit counselor or financial advisor if you need specific advice about choosing the appropriate loan for you.

Secured vs. Unsecured

Loans are typically divided into two main classes: secured and unsecured. A secured loan is one where a creditor takes collateral or some other form of security interest, while an unsecured loan is one where the creditor does not. Secured loans typically come with lower interest rates and more beneficial terms because the creditor has some form of security to protect itself against a potential default by the borrower. Unsecured loans, on the other hand, do not afford this protection and typically have higher interest rates and fees.

Unsecured Consolidation

One of the most common forms of unsecured loan debt consolidation is the credit card balance transfer. In this method, a borrower uses a loan from one credit card company to pay off the debts owed to two or more other lenders. Because credit cards are usually forms of unsecured debt, a credit card balance transfer is an unsecured form of a loan consolidation.

Benefits

Unsecured debt consolidation has some benefits. When you use an unsecured loan to consolidate other loans, you do not have to provide a security interest or collateral. For example by using a credit card balance transfer, you do not have to give your new creditor any collateral in any of your property. If you use a secured loan as a means of consolidation, such as a home-equity loan, you typically must give the lender a security interests in your property, such as a mortgage on your home.

Drawbacks

The primary downside of an unsecured debt consolidation loan is that it comes with a much higher rate of interest and will potentially cost you much more money than a secured loan. The average unsecured credit card loan differs significantly, but rates of 12 percent or more is common. This is significantly higher than the average secured loan rate, which is often closer to five or six percent. It costs the consumer more to use an unsecured loan than it does a secured loan.