4 Reasons Why A Debt Consolidation May Be A Bad Option

debt consolidation loan

With over half of all Canadians carrying an outstanding balance on their credit card, it’s not surprising that debt consolidation is something many turn too as a strategy to lower interest charges and pay off credit card debt sooner.

However consolidation loans don’t always save you money in the long run or solve your debt problems. If you have equity in your home, you may qualify for a relatively low interest second mortgage on your home as a way to refinance your debt. However if you don’t have assets you can use for collateral, you may be tempted to turn to alternative options to seek out a debt consolidation loan. These types of consolidation loans can prove costly and may not provide the benefits you are looking for.

Here are 4 reasons why a debt consolidation loan may not be the right solution:

  • no real interest savings
  • high up-front fees
  • no pre-payment options
  • your assets may be at risk

Many financing companies charge up to 30% or more for a debt consolidation loan, particularly if you have a bad credit rating. Once you add in high up-front fees and other charges, you may end up paying a higher interest rate than you already are. Be very wary of late payment surcharges and penalties as these can be significant. Debt consolidation loans may have clauses that significantly increase your interest rate even after one missed payment.

Another potential downfall of a debt consolidation loan is that you may not be able to pay it off early. Depending on the terms of your debt consolidation loan, you may not be allowed to make any extra payments. That means you can’t pay off your loan sooner even if you are financially able to do so.

If you do opt for a secured consolidation loan, secured by some asset like your house or car, if you are unable to keep up with your payments beware that these assets will be at risk.

The final caution we would have is that a debt consolidation loan does not eliminate your debt. It is a replacement loan. If you continue to use your credit cards you may incur even more debt in the long run. If your debt consolidation loan is not large enough to deal with all of your outstanding unsecured debts, then it may not be the best solution for you. If your credit card debts are significant, in excess of $10,000, and you are struggling to keep up with your debt payments, you should at least consider other options like a consumer proposal as more cost effective way to reduce your debt.

To learn more about how debt consolidation loans work read Chapter 3 of our Complete Guide to Debt Consolidation: Debt Consolidation Loans.

should I consolidate credit card debt

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