What Does "Consolidate Loans" Mean?

Think of loan consolidation in the same way you would think of consolidating files. Instead of having multiple file folders, you could move all of your similar paperwork into one file folder. When you consolidate your loans, you are essentially moving all those debts into one loan. It's vital to make sure a consolidation loan is beneficial to your financial situation before investing the time and effort into applying for one.

Definition

When you consolidate your debt, you take out one large loan that pays off the balances on your existing debt so that you make just one payment per month, rather than payments to each of your individual lenders. The key benefit to a consolidation loan is the convenience of making a single payment each month. Also, if your current loans or other debts have high interest rates, you may be able to save money by consolidating under a loan with a lower interest rate.

Applying

It's important to shop around when researching consolidation loans. Discuss your situation with representatives at both banks and credit unions to find the lender that can offer you the lowest interest rate. Depending on how much debt you have, a fraction of a percentage point in interest could mean the difference between hundreds or even thousands of dollars.

Warnings

Not everyone will be able to qualify for the ultra-low interest rates advertised by lenders. The advertised rates are used to attract people who have high interest rates, but once their application is processed, those individuals may be surprised to find that they qualify only for consolidation loans with higher interest rates. This occurs because the advertised rates are usually reserved for those with excellent credit scores. A lender may be able to give you an estimate on the type of interest rate you would qualify for if you provide a consumer copy of your credit report prior to putting in an inquiry.

Considerations

Consider speaking directly with your lenders to negotiate lower interest rates on your current debt before applying for a consolidation loan. Remember, a consolidation loan is new credit, and each time you apply for new credit you create a small negative impact on your score.