Personal loan for debt consolidation: Make note of these 5 key points | Mint

If you are running low on funds, opting for a personal loan is typically feasible as well as rational. Borrowers tend to raise a personal loan for an array of purposes which include going on a vacation and buying an expensive item for your loved one.

Besides these, one could raise personal loans for repaying the existing debts as well. Sounds bizarre, but true. And rightly so!

Imagine you have three current debt obligations and have different loan repayment deadlines every month. Moreover, there are varying interest rates which range between 12-15 percent per annum.

To consolidate debts

At the same time, you get an offer from a bank or a non banking financial corporation (NBFC) to raise a personal loan at 11 percent interest. And what appears to be frosting on the cake is that the loan amount of the fresh loan can cover all the existing debts.

Let us understand this with an illustration:

You have ₹5 lakh debt for three years on which you pay 13 percent interest. There is another loan of ₹7 lakh for three years bearing an interest of 12 percent. Finally, there is a ₹3 lakh loan for three years on which you pay 15 percent interest.

If you use Livemint Personal Loan EMI calculator, you will find out that the EMIs on these debts amount to ₹16,846 (on ₹5 lakh), ₹23,250 (on ₹7 lakh) and ₹10,399 (on ₹3 lakh). Overall , it adds up to ₹50,495.

Now, if you have an option to raise ₹15 lakh to repay all these debts and the new loan is offered at an interest rate of 11 percent for three years, then the EMI of the fresh loan would be ₹49,108.

This way, you could save around ₹1,387 every month (50,495 – 49,108).

However, if you plan to raise a personal loan to consolidate your debts, you should make note of the following points.

1. Check the rate of interest: First and foremost, you need to make sure that the interest rate of fresh loan is lower than that of earlier loans. If you consolidate debt and take a new loan that is more expensive, then it is pointless to opt for it.

2. Processing fee: A new personal loan would lead to a processing fee which could decrease your savings proportionately. So, make sure that the processing fee doesn’t nullify your savings of interest.

3. Prepayment penalty: When you prepay a loan, it may incur prepayment penalty. This is another added cost. So, you are supposed to do the math to make sure that you save despite incurring processing fee as well as prepayment penalty.

4. Stage of loan: It doesn’t make sense to prepay existing loans and take a fresh loan when you are close on the heels of loan repayment. However, when the loan tenure is still a few years into the future, you may opt for debt consolidation.

5. Reputation of lender: Another key consideration is to ensure that the new lender is reputable. It is advisable that you opt for a large bank or an equally big NBFC. 

However, if you are choosing a small lending app then make sure it is RBI compliant and check the reviews of its customers and other stakeholders.

Sometimes, spurious apps have huge hidden costs and poor customer service record which leads to more pain in the medium to long run.