Debt Reduction

Reducing Debt the Carpe Way

By Team Carpe | February 17, 2016

Using a Personal Loan to Save Money and Consolidate Your Debt


Not all debt is bad. In fact, your credit rating is a measure of how well you handle your debt. There may be a million reasons why your credit score isn't stellar right now, but that doesn't mean you can't improve it or get more favorable terms for repaying your current debt.

Many of your most important milestones, like cars, homes and business expenses depend on credit. To get what you want, you may have to go into debt. Consolidating your debt can be a sobering and useful financial tool before starting a major life change like a home improvement project, planning for a wedding, saving for a major vacation or preparing for emergencies like medical treatments. In all of those situations, and many more, the most successful people are those who have a better understanding of how to access and use the right kind of debt.

The "right kind of debt" has a low-interest rate and good repayment terms. Getting to that point, though, takes some careful financial planning and course corrections along the way. Over the past few years, banking rules have shifted, and many more online lenders have entered the market to offer personal loans for people with all kinds of credit backgrounds. The online lending market is worth well over $12 billion. Somewhere in that market is the right debt consolidation loan for you.


Before You Start: Know Your Credit Position


How does your credit look right now? You have to know where you are starting from and what you are trying to achieve. You don't have to have great credit to get a good loan but the better your credit, the better your terms. Each year you can get one free credit report from each of the three national credit bureaus: Experian, Equifax and TransUnion. These free reports won't give you a credit score, but they will show you how your credit looks on paper. Make sure the information here is right and clear up any wrong information that may be holding you back. Many improve their credit and financial condition simply by correcting errors on their credit reports. It's up to you to makes sure it's right.


Credit Score Calculations Vary


There is not one single credit score for each person. Different lenders often use different scoring methods. Your score will vary quite a bit from one company to the next. Also, credit scores are constantly in a state of flux based on what's going on in your financial life.

The credit scoring method that most people talk about is FICO, but other popular ones include VantageScore, PLUS Score and TransRisk Score. If you want to know your credit score from one of these companies, you'll usually have to pay. FICO scores range from 300 to 850. Scores in the 630-700 are considered average. If your score is below 630, you will still be able to get a personal loan, but the terms may not be any better than your existing debt.


Where to Find Personal Loans


Personal loans usually come in two flavors; secured and unsecured. Home equity loans are the most common secured loan, where your house or property is used as collateral against the loan. Because you risk losing something you own and hold dear, secured loans usually have lower interest rates, but the risk is enormous.

Unsecured loans are preferable but harder to find. Traditional banks normally only offer personal loans to those with excellent credit. Credit unions and online lenders are the best sources for unsecured loans for people with lower credit scores.

Peer-to-peer lending is another source that has changed dramatically in just the past two years. The Federal Reserve estimates that peer-to-peer lending has been expanding at a rate of around 84 percent each quarter since 2013. Peer-to-peer lending rates have also remained below credit card rates, making them a good solution to eliminating credit card debt.

While average credit card rates are currently hovering around 13-15 APR (annual percentage rate), that number changes frequently. Having better credit will earn you substantially lower rates and perks like cash back or airline travel rewards. Some cards even offer a temporary 0 APR for a limited time or for balance transfers. Deals like these can save you a great deal if you use them wisely.

With credit cards, however, there is one huge trap that many people fall into. Credit cards are revolving debt that allow you to pay a minimum amount, sometimes as low as 10% of the balance. They want you to take out additional debt, dumping you into a perpetual cycle of permanent debt and high interest. In comparison, personal loans are installment-based, meaning you have to pay a certain amount of principal down every month. By consolidating your debt under a 3-year or 5-year loans, you could be debt-free within 36 months! That can make an enormous difference in your credit rating and your life decisions from that point onward.


The Role of Loans in Financial Planning


The most important point to keep in mind is that lowering your existing debt payments should be a cornerstone of your financial planning. Banks are always changing their criteria and their offerings. Meanwhile, independent lenders are constantly entering the marketplace and shaking up the competitive outlook. You can use unsecured installment loans, or personal loans, to lower the interest rate on your high-cost credit card debt. Effectively, this helps you eliminate debt faster because it places you into a strict payment schedule. Instead of offering an open-ended credit card line to keep you in debt forever, most lenders for personal loans will require full repayment within three or five years.

Personal loans from online lenders that provide this structure and the aforementioned lower rates are relatively new. It's critical that you take the time to choose the right personal loan that fits your situation because it's a long term commitment that can make a big difference in your financial outlook. With the wide variety of offers available on the market today, it can be challenging to settle on the right one.

You've made the right first step. Just becoming aware of all your financing options can be extremely helpful to your lifetime stability. Particularly, it's helpful to realize that you don't need perfect credit to find the right personal loan for you.


Sources:


http://www.bna.com/treasury-department-launches-n17179935233/


http://files.consumerfinance.gov/f/201209_Analysis_Differences_Consumer_Credit.pdf


http://www.myfico.com/crediteducation/creditscores.aspx


https://www.clevelandfed.org/Newsroom%20and%20Events/Publications/Economic%20Trends/2014/et%2020140814%20peer%20to%20peer%20lending%20is%20poised%20to%20grow


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