One EMI Instead Of Many: Is Loan Consolidation Right For You?

When multiple loan payments begin to accumulate every month—personal loans, education loans, credit card payments—it can become daunting to keep up. 

That's where loan consolidation comes in as a potential solution. The concept is straightforward: take several existing loans and roll them into one large loan with a new repayment plan and one equated monthly instalment (EMI).

The trend is catching on, particularly among the youth, salaried professionals and credit card holders burdened with high interest rates. 

Consolidation of loans can prove to be an effective means to organise payments and even lower the total interest burden in some cases, depending upon the new conditions.

What is Loan Consolidation?

Loan consolidation involves the process of availing of a new loan to settle several existing loans. Rather than managing various EMIs with varied due dates and interest rates, the borrower pays off a single loan. The new loan could have a reduced rate of interest or even an extended repayment period, or both.

Banks, non-banking financial companies (NBFCs), and fintech lenders usually provide personal loans for the same. 

Some simply term it as a "debt consolidation loan." They are usually unsecured loans, i.e., no collateral has to be provided.

For instance, if a borrower is paying for three loans—a study loan at 10 per cent, a personal loan at 14 per cent, and credit card dues at an effective rate of 36 per cent per annum. A 13 per cent consolidated loan may facilitate the settlement of all three and less monthly financial burden.

Who Should Consider It

It can prove beneficial for individuals in some circumstances.

• Several Unsecured Loans: When an individual has two or more personal loans, credit card payments, or small-ticket EMIs, consolidation can organise their finances. It is easier to manage one EMI over many.

• High-Interest Debt: Individuals with heavy credit card dues, or with loans carrying high rates of interest can gain from substituting them with a consolidation loan that attracts a lower rate of interest.

• Temporary Cash Shortage: Borrowers with regular income but temporary repayment difficulties may ease their monthly EMI burden by choosing an extended loan period through consolidation.

• Credit Score Rehabilitation: When late payments or overdue charges are impacting a credit score, turning to one loan with reasonable EMIs and making timely payments can improve the score in the long run.

Factors to Consider

Though having a single EMI sounds nice, loan consolidation does not necessarily have to be cost-saving. EMIs could be reduced but with a higher tenure that can add to the total interest burden over a long period. The new loan will also attract some processing charges, and the older loans may carry prepayment penalties.

It should be compared to the collective cost of the combined loan—fees and interest—and the aggregate cost of all the current loans. A longer repayment period could make the monthly load lighter, but heavier on the total repayment.

Another aspect is eligibility. The lenders check for income, credit score, and debt-to-income ratio before accepting a consolidated loan. Individuals with bad repayment track records or high outstanding amounts might not be sanctioned so simply.

As digital lending has grown, it is now easier and faster to obtain a debt consolidation loan. Some of the fintech players provide instant approval on credit history and repayment history of earlier loans. Be aware that the terms might have a higher rate of interest than what lenders charge on regular loans.

For those borrowers who want to streamline their repayment pattern, particularly young professionals or students paying multiple EMIs, consolidation can be a relief. But it must be utilised with discipline and repayment planning.

Consolidation can be managed to deal with debt better, but it is not a way to get out of debt. The intention must be to utilise it as a means to financial stability, not as a reason to incur more credit.