Consider the Real Cost of You Loan Consolidation
By Shane Flait ©2008

Loan consolidations are targeted to people with good credit ratings. Debt consolidation, on the other hand, is directed to people with serious debt problems. Debt consolidation may hurt your credit rating. Here, we’ll concentrate on loan consolidation.

 

In choosing to make a loan consolidation, you’re perhaps interested in making just one payment per month and minimizing that amount. Your intention may be to payoff your debts or reduce payments to free up income for daily living. But watch out you don’t end up paying more financing fees than you would on your original loans.

 

As an example you may be interested in lowering your monthly payment. But lower monthly payments are the result of increasing the number of payment months or a getting a lower interest rate loan – or both. Even a higher interest rate consolidation loan can lower your monthly payment if you extend the loan time out far enough. What’s the implication to your costs?

 

So what should you consider on a loan consolidation?

Generally, extending the months to pay your loans back will increase your overall financing charge. In this case you’re paying for your lowered monthly payments!

 

If interest rates drop so that your consolidation loan rate is lower than your original loans, then if you maintain the same number of remaining payments you’ll truly reap both a lower overall finance charge and a lower monthly loan payment. This is the ideal circumstance for you. But if you double the remaining number of payments, your overall financing cost will go up considerably.

 

Refer to the table[1] where no processing fees are included - only interest payments. It shows the monthly payments for a 7%, $10,000 loan for 5 years decreases very little in going to a 5%, $10,000 loan for 5 years but the total financing cost goes down about a third. Again this is the ideal situation for getting rid of some excess interest payments. But if you double the term from 5 years to 7 years for the second loan, the payments almost halve, but the total financing costs increases by over a third even with the reduced interest rate!  So, watch out what ‘sucks’ you into making the consolidation!

 

Loan Payment Versus Interest Rate And Term
Interest Rate (%)	Term (yrs)	Monthly Payment	Financing Cost for $10,000 loan
7	5	$ 197	$ 1812
7	10	$ 115	$ 3852
5	5	$ 188	$ 1276
5	10	$ 106	$ 2675

 

 

 

 

 

 

 

 

 

 

If interest rates remain the same, then consolidation for a lower monthly payment can be quite costly. The table shows that doubling the term at the same interest rate reduces the payments considerably, but the total financing cost more than double!

 

So remember, be very leery at extending the payment term whether the interest rate stays the same or goes down. It’ll cost you more. Rather, if you can work a little extra and save a little harder to pay off your original loan, then you may well be better off in the long run.

 

 

Shane Flait is a writer and educator. Get more info at www.EasyRetirementKnowHow.com

 

 

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