The consolidation of credit is a practice for individuals to renegotiate their loans to lower monthly payments. It can also entail secured loans covered by collateral or conversely involve unsecured loans merging with other unsecured loans.
As can be expected, collateral assists in reducing the rate of interest applicable, and in most cases borrowers use their houses to secure the loan. And in the event of default, foreclosure proceedings will be effected to recover the debt.
On the other hand, clustering allows an individual to redeem all of his loans with a single loan that comes with a longer repayment period and in some cases lower monthly payments.
This practice is widespread in many parts of the globe because of the increasing indebtedness of households in particular due to rising property prices. The banks also see a new growth segment as the area of retail banking matures.
It is fairly common for debt consolidation companies to offer significant discounts on the loan amount. In the event that the borrower may wind up bankrupt, in such a case the debt consolidator purchases the loan at a discount. However, debt consolidation is not always the best route as it may lead to inability to liquidate the debts, if faced with bankruptcy.
Some debts such as that of credit cards can work better with the debt consolidation route, as they usually bear a much higher rate of interest in comparison to, say, unsecured loans.
In the United States, the Department of Education buys current loans in respect of federal student loan consolidation. The Treasury Bill rate is used to determine the interest rates applicable, hence the rates are often unstable. Since the fixed interest rate works with the current rate, reconsolidating has no effect on the going rate. However, in the event that various types of loans are merged into a single consolidation loan, a weighted average calculation comes into play.
In countries such as the United Kingdom, student loan entitlements are warranted and can be retrieved through a system specifically designed for the purpose. An individual’s credit rating is not impacted by default in the UK due to the fact that funds are recouped from the student’s future salary earnings.
Federal student loan consolidation in the US is sometimes known as loan refinancing, even though it is wrong since the loan rates are unaltered. Contrary to private sector debt consolidation, student loan consolidation does not entail fees for the student. Private firms reap rewards on student loan consolidation through government subsidies.