What is Debt Consolidation and How Does it Work?

What is Debt Consolidation and How Does it Work?

Debt consolidation is the technique to pay down the debts in a more convenient and faster way, but before the detail discussion we need to know:

What the debt is?

Debt is the amount that is borrowed by one party from another in order to use in some areas like in business that was not affordable in normal circumstances. It is normally done by an agreement with some conditions to pay back the debt in later times normally with the fixed interest rates along with the principle amount.

  • The debt may be owed by a sovereign, a country or a state, as local government, company or an individual.
  • Loans, bonds, notes and mortgages all are the types of debt.

What is Debt Consolidation?

  • Consolidation, means the action or process of combining a number of things into a single, more effective and coherent whole.
  • Debt consolidation, is the form of debt refinancing that entails taking out one loan to pay many others. That means we can reform our so many small debts or loans into a major large one that gives
    the convenience to pay debts with lower stress.

Sometimes the overall debts reaches to the point where a person or a business goes in the danger of;

  • Bankruptcy, insolvency and other fiscal emergencies.

So there are different consumer options that helps to avoid these problems, debt consolidation is one of those. This process helps to eliminate the need to pay the multiple payment plans and may also helps to reduce the interest rates by providing the convenience of paying one debt or loan. However debt consolidation is not for everyone. One should need to learn the consolidation programs, including:

  • The type of debt that can be consolidated.
  • Who is the ideal person for debt consolidation?
  • Which is the best way for consolidation?

So one should need the proper settlement planning: There are different ways in different part of the world, some are:

  1. Debt consolidation loans.
  2. Balance transfer credit cards.

Debt consolidation loan :

  • Debt consolidation loans helps to pay off all small loans into single larger one by lowering the interest rates.
  • Instead of paying several creditors each month you need to deal with one.
  • Each month you have to pay one installment as per agreement .
  • Lenders have fixed costs to payment and repayment will go to a larger period.
  • This loan includes the amount that is applied to the principle amount ( that A person owe) as well as the interest.
  • Interest rate depends upon several factors like: loan amount, credit score, debt and credit history and debt_to_income ratio.

In addition to normal debts consolidation, one can consolidate the 401k loan or home equity loan but both are risky.

Balance transfer credit card technique:

This is another way of consolidating debts with zero percent interest. It is the process when you pay off the balances on existing credit cards or loans by transferring to another credit card account with lower rates during the
introductory period of time by saving money on interest and possibly helps to pay debts in time.


  • It can not only provide the ease to pay one debt instead of several but also lowers the rate of interest if one could pay his debts within introductory periods of balance transfer.
  • One could potentially owe more money if he is unable to pay all of his debts before the promotional period has ended.

When consolidation makes a sense?

Not in every situation consolidation is required. Again there is a great need to think and plan if there is a suitable time for debt consolidation or not. The key points that indicates the sense of having debt consolidation are;

  • When the total debt, excluding the mortgage does not exceeds 40% of gross annual income.
  • When you have a good enough credit score to qualify for either to go with: debt consolidation or balance transfer through credit card.
  • Have debts with higher interest rates than the interest rates if the debts you need to pay through consolidation.
  • You have debt to income ratio that will allow you to pay consistent consolidation loan payments .
  • When you have a plan to secure yourself from falling into debt in the future.

When debt consolidation does not makes sense?

If you or your business is in a good position and you are able to pay all debts in time so there is no need to consolidate your debts. On the other hand if there is no hope in met a future to repay your debts again there is no need to consolidate. For example:

  • If you likely pay off your existing accounts within next 16 to 24 months, or if you have no hope to pay debts even after consolidation so, you does not need to plan it rather go for another choice.

Master mind tips to maximize debt consolidation benefits:

When the choice is made for debt consolidation some of the key steps are here to follow in order to get more benefits:

Realistic budget creation: before planning the debt consolidation you must have to make the realistic budget that includes all of your expenses including house hold expense, loans or debts that re not included in consolidate loan or new loan.

You should also keep a little space for your upcoming expenses or spending money. Realistic budget will clearly you that how much you can spend money in future with savings, and how much you can transfer to your debt card for debt payments.

Forget credit cards: as there is a great liability upon you and you have to pay debts, so you have to forget your credit cards because that surely decrease your account capability to pay your debts. So you have to control your expenses as well.

Compare consolidation options: in order to pay loans it is important to review your paying options while consolidation as it can help you to minimize the interest rates and to pay more debt amount successfully.

Consider moral support: larger debts are majorly on the top list that affect you all the time by clicking your mind towards itself, that obviously disturbs your life, emotions habits and all. So you must call for a moral support to handle the situation successfully.