Looking for a Budget Rescue? A Personal Loan Could Be the Answer
- A debt consolidation loan is a good way to pay off high-interest debt.
- Watch out for expensive add-ons, sometimes referred to as "origination" or "administrative" fees.
- The higher your credit score, the more personal loan options you have. However, even if your credit score is low, you may be able to snag a personal loan with an interest rate far lower than you're currently paying toward other debt.
Personal loans are for more than remodeling.
If you're carrying high-interest debt, you know how suffocating it can feel. Worse yet, when you have a wallet full of maxed out credit cards, a payday loan, or any other kind of debt with a sky-high interest rate, it becomes more difficult to get out from under.
Most personal loans can be used for any purpose you desire -- from installing a spa-like bathroom in your home to covering your child's wedding expenses. One of the best forms of personal loan is a debt consolidation loan. Here's how it works:
- You add up how much you owe in high-interest loans, credit cards, and other debt.
- You apply for a personal loan in that amount. If approved, most lenders will direct deposit the proceeds into your checking account. Some lenders will directly pay the high-interest debt off on your behalf.
- You make monthly fixed payments until the loan is paid off.
The real-life benefit
Let's say you have four credit cards, each carrying a balance of $5,000. The average interest rate on each card is 17%. That means that you owe a total of $20,000 at 17% interest. Between the four cards, your monthly minimum payment is likely around $600. If you were to continue to pay the full $600 per month, it will take you 46 months to pay the debt off in full, and you will pay $7,259 in interest.
Now, let's say that you have a good credit score and land a personal loan with an interest rate of 8%. If you continue to make a $600 monthly payment, it will take 38 months to pay off the loan, and you will pay a total of $2,694 in interest.
If you're having trouble making the minimum monthly payment, you may want to consider a longer loan term. You will end up paying more in interest over the life of the loan but your monthly payment will be lower. For example, stretching the loan term to 60 months will knock your payment down to $406, and you'll pay a total of $4,332 in interest.
It pays to shop around for the best interest rate and term. That means taking time to contact at least three lenders. Most lenders will run a "soft" credit check before letting you know if you're approved for a loan and what the rate and terms will be. A soft credit check means there will be no impact on your credit score. It's only when you decide to go with a specific lender that it runs a hard credit check. Although a hard check will ding your credit score a bit, it will bounce back after you make a few on-time payments.
What to look out for
This may sound counterintuitive, but the lowest interest rate does not always represent the best loan. That's because some lenders charge expensive fees that do little but increase the price of the loan. For example, some lenders charge an origination or administrative fee. If you have a good to excellent credit score, there's absolutely no reason to accept such a loan.
When a lender tells you that your application has been approved, make a point to ask about all fees included in the loan. And don't just take someone's word for it. Read the loan document over carefully before signing.
If you have a low credit score, your loan options may be more limited (and you may get stuck paying an origination fee). However, if you're trying to get out of high-interest debt, like a payday loan, chances are, you'll land a lower interest rate with a personal loan.
If you find yourself spinning your wheels as you try to get out of debt, a personal debt consolidation loan may just be the budget rescue you're looking for.
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