Benefits and Risks of Combining Loans

Consider this scenario: you have four loans—a personal loan at 14% interest, a car loan at 10%, and two credit card debts with 18% interest each. Your total monthly EMI is ₹40,000, and the interest is eating into your savings. 

Now, picture combining these into one debt consolidation loan with a 12% interest rate and a single EMI of ₹30,000. That’s ₹10,000 saved each month, equating to ₹1.2 lakh annually.

The demand for personal loans grew by 14% as of July 2024, suggesting that more people are opting for this financial strategy to manage multiple debts effectively.

It’s a strategy many are exploring, but like any financial decision, it has its benefits and risks.

What Does Combining Loans Mean?

Combining loans, often referred to as a debt consolidation loan, means merging multiple loans into one. Instead of managing multiple EMIs, you pay just one. 

For example, if you have three loans—₹3 lakh at 15%, ₹2 lakh at 18%, and ₹5 lakh at 12%—you can consolidate these into a single ₹10 lakh loan. With a reduced interest rate, your total outflow decreases.

How It Works

By consolidating, you save ₹5,300 per month. Over 12 months, that’s a saving of ₹63,600.

Key Benefits of Combining Loans

Debt consolidation loans simplify life. Imagine dealing with five different lenders versus just one. Here are some clear benefits:

• Lower Monthly EMIs: By securing a lower interest rate, you reduce your monthly burden.
• Fixed Payments: Unlike credit cards with fluctuating bills, a loan has predictable EMIs.
• Improved Credit Score: Paying on time boosts your credit health.
• Single Due Date: No stress of remembering multiple deadlines.

For instance, a borrower with a total debt of ₹8 lakh reduced their EMI by ₹6,000 by consolidating at 10% interest. Over five years, this translated to ₹3.6 lakh saved.

Risks of Loan Consolidation

Combining loans isn’t a magic fix. There are risks you must know.

Higher Overall Costs

A longer repayment tenure might lower your EMI but increase total interest paid. Let’s break this down:

• A ₹5 lakh loan at 10% for 5 years costs ₹1,37,500 in interest.
• The same loan for 10 years? ₹2,93,500.

Though the monthly EMI reduces from ₹10,624 to ₹6,434, the total cost nearly doubles.

Loss of Benefits

If you consolidate a student loan, you may lose tax benefits under Section 80E. Similarly, fixed-rate loans like car loans may not benefit from falling interest rates.

Temptation to Borrow More

Once you clear high-interest loans, it’s tempting to overspend again. Consolidation works only if you avoid piling up new debt.

How to Decide If It’s Right for You

Not every debt needs consolidation. Ask yourself:

• Is the new loan’s interest lower than my current rates?
• Can I afford the processing fees (typically 1-2% of the loan amount)?
• Will I stick to a strict repayment plan?

Tips to Make the Right Choice:

• Research lenders offering debt consolidation loans.
• Compare interest rates and calculate total costs.
• Avoid consolidating secured loans (like home loans) into unsecured loans.

Conclusion

Debt consolidation loans simplify your finances and save money when done wisely. But the risks—higher long-term costs, loss of benefits, and potential overspending—can’t be ignored. The key is understanding your financial situation and making informed decisions.

So, is combining loans your financial solution?

FAQs

1. Who should consider a debt consolidation loan?
   Anyone with multiple high-interest debts and a stable income.
2. Does combining loans hurt my credit score?
   Initially, it may dip slightly, but consistent payments improve it over time.
3. Are there fees for consolidating loans?
   Yes, lenders charge processing fees, typically 1-2% of the loan amount.
4. Can I consolidate any type of loan?
   Most unsecured loans qualify, but secured loans need specific conditions.