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If you have a ton of debt, one of the simplest ways to get it under control is to combine all your outstanding debts into one loan with a lower interest rate. For example, if you owe, say, $15,000 on three credit cards that have interest rates of 15%, 18% and 21%, you might be able to roll them all into one unsecured debt consolidation loan at an interest rate of 8% or less. If you could do this, just imagine how much money that would save you each month and how much better your life would be.
While this might seem like a good solution, there are actually several good reasons to not get an unsecured debt consolidation financial loan. In fact, instead of getting one of these loans, you might want to consider ways to reduce your debt and not just move it from several lenders, such as credit card companies, to one new loan.
Reason #1: Low maximum amount you could borrow
One of the biggest problems with unsecured debt consolidation loans is that you may not be able to borrow enough money to put a real dent in your debt. Many lenders just don’t want to take on the risks associated with unsecured loans. Why are these loans riskier? It’s because if you default on the loan, about all the lender can do is harass you or file suit to recover its money.
On the other hand, if you have an asset you can pledge as collateral–for example your house or some other property–you will probably be able to get a larger loan, which would do more to help you get out of your financial problems.
Even if you do have an asset you can pledge as collateral but are deeply in debt, you may have a problem getting an unsecured loan. Even if you're able to get an unsecured debt consolidation financial loan, you have to be careful or you could end up piling new debts on top of your old ones.
Reason #2: Higher interest rates
As you may know, loan companies tend to set their interest rates based on the amount of risk involved in the loan. For example, if you have a credit score of, say, 700 you will pay much less in interest than if your score was in the 500s, as you would be deemed more “creditworthy.”
You are also less of a risk if you have an asset you can pledge as collateral. This gives the lender something it can seize if you default on the loan. This means it will not have as much of an overall loss, which means less risk and, thus, you should get comparatively lower interest rates.
Reason #3: Low quality lenders
The third reason to stay away from unsecured debt consolidation financial loans is because the companies that offer them tend to be some of the least desirable in the market. These lenders tend to charge the highest rates of interest and the highest late fees. Many of them also require big upfront payments for you to just apply for the loan. As a matter of fact, if a company does require you to pay a big application fee, you should probably run away from it. The odds are that it's an unscrupulous company that might just take your money and never actually give you a loan.
Focus on reducing your debts
While an unsecured debt consolidation loan may seem very attractive, it does–as you have read–come with drawbacks. This is why many financial experts will tell you that it could be much better to not get an unsecured debt consolidation loan but to focus instead on reducing your debts.