People accumulate debts for several reasons. Some debts are the result of bad spending habits, while others are due to unforeseen emergencies and commercial purposes. The most common debt comes from taking out a loan to pay for education, purchase a large item, cover a sudden medical bill, invest in a business, or even pay off existing debts.
Although taking on more debts to pay off outstanding ones sounds unreasonable, it may make sense for certain situations. Personal loans are one form of credit that many people use to lessen their debt load and save money in the long run. However, it may not work for everyone since there is a no-one-size-fits-all solution to every debt problem.
But to help you decide whether or not it’s a smart financial move for you, here are the top reasons to pay off debts with a personal loan.
Consolidate Higher Interest Debts
If you have existing debts with higher interest rates, it may be reasonable to consolidate them in a personal loan. Instead of paying multiple debts with different rates and due dates, you will only have to make one repayment on a single personal loan every month. But though it sounds easy and simple, it should not be done lightly.
Secure A Lower Interest Rate
Carrying credit card balances can be stressful, especially if you make late or missed payments. You could pay a lot more interest on a credit card even if you have excellent credit.
On the other hand, the interest rate of personal loans tend to be lower, and it can go even cheaper if you have a high credit score. By paying less in interest, you could also cut your total interest payment in half. Thus, a personal loan is a great option to replace your revolving credit.
Reduce Credit Utilization Ratio
The credit utilization ratio measures how much credit you’re using. If you carry a balance on one or more cards and are beyond 30% of your credit limit, your utilization is high. Note that it’s an indicator that you may be overspending, which can negatively affect your credit score.
By taking out a personal loan to pay off your debts, you can reduce your credit utilization ratio and improve your credit score over time.
Make Payments More Manageable
Personal loans have a fixed term, which typically ranges from 12 months to 84 months. Since you’ll know how much you’re going to pay each month and when the loan will end, it is much easier to manage.
Unlike credit card debts, you have an accurate idea of how much you should allocate for your personal loan payment every month. Therefore, you can prioritize it better.
Pay Off Debts Sooner
If you want to pay off credit card debts sooner, consolidating them on a personal loan will help you make it possible. You can pay more than the minimum payment since the interest rates of personal loans are usually lower.
If you decide to pay off your debts in less than five years, you can set up a payment plan to repay your one personal loan within that desired period. The lower interest rate and fixed term of personal loan can help you get out of debts faster as long as you don’t start another credit card debt.
Essential Reminders Before Getting A Personal Loan
Although a personal loan is a great tool to improve your finances, you must remember that it is still a form of credit. If you don’t know how to use it responsibly, a personal loan may bring more harm than good to your financial health. Before you commit to any personal loan, it wouldn’t hurt to equip yourself with the following reminders:
– Have A Budget and Plan In Place
When you take out a personal loan to pay off debts, make sure that you have a budget and plan in place. You must consider how long you can pay off your personal loan and your repayment strategy. Do you have enough resources to pay the loan within five or ten years? It would also help if you check on your financial habits and analyze how you’ve got into multiple debts in the first place. Doing so may help you manage your personal loan better.
– Beware of Hidden Fees
Personal loans may vary from one lender to another. It would be best to shop around multiple lenders to find the best interest rate for you. Besides that, beware of hidden fees on a personal loan. Some lenders may factor the cost of hidden fees into your monthly payments. Thus, take time to read the fine print and add up the costs before deciding on anything.
– Exercise Financial Discipline
Consolidating your debts on a personal loan doesn’t make your debts disappear. Remember that you would still be paying it. Therefore, it is essential to exercise financial discipline and ensure that you’ve got your spending under control. Else, a personal loan will only become an ultimate enabler.
Taking out a personal loan to pay off your debts needs a plan and preparation. Keep in mind that rushing on a personal loan unprepared may only lead you to more spending and more debt. If you think you have problems controlling your spending habits, don’t hesitate to seek financial advice or credit counseling from a professional.