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Are You Having Second Thoughts About Your Debt Consolidation Loan?

Many of our customers come to us looking for a secured loan for debt consolidation. They’ve started to struggle with their debts and are finding it hard to manage their credit card and personal loan payments. The balances don’t seem to be going down and they feel as if they’re always in the red. It’s becoming more and more difficult to make the minimum payments.

They decide to do something about it, and after looking at the different options, they apply for a secured loan. They speak to one of our advisers, everything goes well, and the adviser provides a solution that works for them and solves their problems. They start to see the light at the end of the tunnel.

The adviser sends out the application pack for the customer to review. All the customer has to do is complete it and send it back to get the loan and clear their debts.

But something makes them hesitate.

They start to have doubts.

They start to wonder if this is the right thing to do, and if they might be better off doing something else instead.

Perhaps this sounds familiar. Perhaps this is a position that you’re finding yourself in, having applied for a secured loan with us.

Firstly, having worries and concerns about an important financial decision like taking out a secured loan is completely normal. It’s a big decision and it’s a big commitment.

It can even feel unnerving or even scary, especially if you’ve been struggling with debt.

So, in this blog, we’ll look at some of the reasons why you might be having second thoughts about your secured loan application, give you some things to think about and provide you with some reassurance.

1. You don’t want to borrow more money when you’re already in debt.

Taking out a secured loan to pay off your debts might seem like you’re “robbing Peter to pay Paul” as the saying goes.

Borrowing more money when you’re already in debt is never a good idea in itself, and it’s often the reason why debts build up in the first place.

Many people fall into the trap of applying for more credit to pay off their existing monthly commitments. While this provides immediate relief for that particular month, it’s a temporary solution.

In this situation, all that taking out further credit does is give someone another bill to pay the following month.

This in turn increases their outgoings and often traps them in a cycle of borrowing. As their credit commitments build up, the amount of credit available to them goes down – with every new application, lenders offer less money for personal loans, or lower limits on credit cards.

Eventually, applications for credit are declined, and the customer is stuck with a ton of debt, unmanageable payments, and nowhere else to go.

When people borrow to pay off debt in this way, they’re only focused on the short-term relief and not a long-term solution.

But using a secured loan for debt consolidation is different.

A debt consolidation loan restructures your finances, paying off your existing debt, reducing your outgoings and leaving you with one affordable monthly payment.

Your debts are paid off immediately, and the reduction in your outgoings isn’t just for that month  – it’s a long lasting reduction that can free up your income to save, put money aside for emergencies, or just make life more comfortable again.

It’s completely understandable to be worried about taking out a loan when you’ve already been struggling with debt. But trust in the process and remember that a debt consolidation loan is a long-term solution that can give you a fresh start with your finances.

2. You’ve heard that a secured loan for debt consolidation is a bad idea.

Secured loans still seem to have a bit of a bad reputation in some circles. Some view them as “bad credit” products, or “last resort” loans.

This attitude can be traced back to the historic mis-selling of secured loans prior to the 2008 financial crisis. Back then, secured loans weren’t regulated.

Since 2016, however, the Financial Conduct Authority have regulated the sale of secured loans, which has provided increased protection for customers and led to higher standards within the industry.

Now, in terms of how secured loans are sold, and how the customer is protected, they are no different from regular mortgages.

Secured loans work just like regular mortgages, too – you borrow an amount of money, over an amount of time, and make monthly repayments until the loan is paid off.

However, the stigma and misunderstanding about secured loans, and how they can benefit customers looking to consolidate debt, continues.

Have a look through Martin Lewis’s Money Saving Expert website, and you’ll find that the articles there paint secured loans in a negative light. One article warns readers that secured loans “can be a nightmare” and the general advice is to avoid them, and take out a personal loan instead.

Taking out a personal loan to consolidate debt is not always the best advice.

It could work if you’re paying off a relatively small balance, and the interest rate on the personal loan is lower than the rate on the debt you are paying off.

However, lenders will often limit the loan term to 5 years when it’s for debt consolidation.

This means that, depending on how much you’re borrowing, the payments to the new loan might only be slightly cheaper than your existing payments.

They could even be more expensive.

The biggest problem with using a personal loan for debt consolidation comes when you’re paying off bigger balances or more significant amounts of debt. Because the loan term is often capped at 5 years, the bigger the loan, the higher the monthly payments.

With a secured loan, the term can be much longer – anything up to 25 years. This means that even when borrowing a higher amount of money, the payments can be lower, because they are spread out over a longer term.

There is a downside to this – by spreading the debt over a longer term, you will pay back more interest overall, but this might be a trade-off you’re willing to make, if having a cheaper monthly payment is more important to you.

3. You think a debt management plan or an individual voluntary arrangement is a better idea.

People will often look at a debt management plan (DMP) or an individual voluntary arrangement (IVA) when considering ways to deal with their debt, and they’re often seen as alternatives to a secured loan.

And for some people, a DMP or an IVA might be the most suitable solution.

But, as a home owner, you should consider the differences between solutions like DMPs or IVAs and a debt consolidation loan, and the overall benefits and risks of each option.

With a DMP, a debt management company or debt charity such as StepChange, set up an arrangement with your creditors to pay a reduced amount of money towards your debts. The aim of this is to give you some breathing space until your situation improves and make paying off what you owe more affordable.

Generally speaking, a DMP can last for between 5 to 10 years. Every year, you’ll have an annual review, where the debt management company or debt charity will go back through your income and outgoings, to see if you can increase your monthly payments towards your debts.

If your financial situation has improved, you’ll be expected to increase your payments. This is to encourage you to pay your debts back as quickly and as affordably as possible.

The debts to your creditors remain active until the DMP is completed. There are some debts that can’t be included in a DMP, such as County Court Judgements.

While the DMP is active, the debts included will normally be marked on your credit file as either being in an arrangement (meaning that the lender has agreed to accept a reduced monthly payment) or as a default (the term used when describing a credit agreement that has been broken).

As a result, this can have an effect on your overall credit profile and your ability to access credit in the future. Some lenders will not offer credit when a customer has an active DMP. If they do accept an application, the lender will charge higher rates of interest, because having an active DMP is seen as a risk.

And, as a home owner, having an active DMP will have an impact when it’s time to re-mortgage. Most high street lenders will consider you to be too much of a risk for their best deals. That’s not to say you won’t be able to get a re-mortgage – but you won’t get the best rates, and you might have to go to a specialist lender.

You should also bear in mind that even when the DMP has been completed, it will remain on your credit file for 6 years, and some lenders might not lend, or offer the most favourable rates, until 12 months after the DMP has been completed.

An IVA is similar to a DMP, in that it is an agreement between you and your creditors to pay off your debts at an affordable amount. They are set up by Insolvency Practitioners, and are legally binding.

IVAs have some additional requirements and potential impacts, compared to a DMP. Your name will appear on the Individual Insolvency Register, and being in an IVA could affect your employment or future employment opportunities. Most IVAs last for around 6 years.

Having an IVA will show on your credit file and will restrict your access to further credit. Many lenders will not lend to you, and you’ll have to get permission from your Insolvency Practitioner if you want to take out credit of more than £500 while your IVA is active.

With an IVA, if you have equity in your property, you may be required to remortgage to pay a lump sum into your IVA, 6 months before the end of the arrangement.

Some lenders will be reluctant to provide you with a remortgage while you’re on an IVA. You might have to apply with a specialist lender, and it’s likely that they will offer you a higher rate because of the perceived risk you pose.

If it’s not possible to remortgage to make a lump sum payment towards your IVA, you may have to increase your payments or extend the IVA.

With a secured loan, your debts are paid off in full, once the loan completes. Most lenders will pay your creditors directly, so you don’t have to have any further contact with them.

You can also pay off debts like County Court Judgements with a secured loan.

Because your debts are paid off from the outset, there are no annual reviews, so there’s no need to worry about going through an income and outgoings assessment every year.

Your original debts have now been replaced by a new loan, with a monthly payment that has been agreed from the start. If you’ve taken out a fixed rate product, that payment won’t change until the end of the fixed rate term.

The debts that you have paid off are marked as settled on your credit file (meaning they’ve been paid off in full).

The secured loan itself shows on your credit file just like any other loan. It won’t have a negative effect on your credit profile, as long as you make your payments on time and in full.

Having a secured loan also gives you the flexibility to refinance it in the future, either by paying it off with another secured loan at a better rate, or combining it with a remortgage.

Overall, if you’re a home owner, a secured loan for debt consolidation can offer more benefits than a DMP or IVA.

However, it’s important to remember that secured loans do come with some risks.

Because they are secured against your property, your home is at risk if you don’t keep up with the repayments. The loan will also use some of your equity, which might have an effect when it comes to re-mortgaging.

As mentioned earlier, the longer term could increase the length of time to repay the debt and as a result, you could end up paying back more interest overall.

Secured loans can have higher rates of interest than regular mortgages, especially if you’ve had bad credit.

There will usually be fees and charges to pay for setting up a secured loan.

4. Should I go ahead with a secured loan for debt consolidation?

Only you can decide if a debt consolidation loan is the right choice for you, based on the factors mentioned above and your own personal circumstances and plans for the future.

If you’re worried about borrowing more money, or still uncertain about how secured loans work, take a moment to remind yourself of what it is that you want to achieve, and what it is that a secured loan will do for you, or give us a call and speak to your adviser again.

If you’re thinking about alternatives like a DMP or an IVA, and you’re not concerned about the impact that those solutions can have on your credit profile and future remortgage offers, and are happy to pay off your creditors over several years, then a DMP or an IVA might be right for you.

If you want to preserve your credit score, pay off your debts immediately, and put it all behind you, then a debt consolidation loan might be the best solution.

5. Speak to us.

If you’re having second thoughts about taking out a debt consolidation loan, we hope this blog has helped you to make a decision that’s right for you.

If you’re still unsure, or if you’re thinking about a debt consolidation loan, one of our qualified mortgage advisers will be happy to talk to you about your options.