Debt Relief vs. Debt Consolidation Loans

As a forewarning, I would like to state that I am somewhat biased, since I work for a debt relief company and part of my job function means offering debt relief as a service.

Debt relief and debt consolidation loans are two options that can be confused quite easily. So what is a debt consolidation? With debt relief consumers pay back less than what they owe and with debt consolidation loans, consumers save money on interest payments. Now with all that being said, spoiler alert, debt relief is usually better with respect to savings. However this will really depend on your financial situation and what goals you’re looking to accomplish. Debt consolidation loans might be more in demand but they don't provide as much savings and often don't actually fix the root cause of the problem.

Debt relief is the option by which debts get settled for consumers in a debt relief program. Debt consolidation loans on the other hand are loans that consumers use to get out of debt and achieve a lower total interest rate. That lower interest rate is achieved by going through the loan application process with a given lender.

Both options technically consolidate a consumer's debt obligations (meaning, they combine multiple payments into one consolidated monthly payment). Here's how it works. For example, if you have 10 credit card accounts, both a debt relief program and debt consolidation loan will provide you with one monthly payment. However, these options are otherwise quite different. The loan is replacing your credit cards while the debt relief option is helping you settle for less. You'll hopefully use the loan to pay off your balances in one shot and then just make the monthly loan payment. With the debt settlement option you will instead pay into a monthly program and settle your debts one by one overtime. The loan option is quick and easy and painless but it comes with a lot less savings. The debt relief (aka debt settlement option) provides more savings and has more side effects.

Debt Consolidation Loans

Debt consolidation loans help you lower your interest payments. Ideally, you'll qualify for a debt consolidation loan with a lower interest rate and one that is eligible to include all the debt accounts you want to. Moreover, debt consolidation loans are usually processed via ACH payments and usually ask customers to make an automatic monthly payment.

Debt Relief

Debt relief as an option has more negative associated credit impacts but it also provides more savings than a loan does. It helps consumers by providing one consolidated monthly payment. Debt relief will typically provide the most savings with the least side effects. However, consumers do sometimes get cold feet about not making timely payment on their credit card bills. Although this is a valid concern for some, it helps if you frame it into the proper perspective. We are stopping minimum payments with the goal of trying to settle them for less later down the line. It's not without good reason. So the default will hopefully be temporary until the accounts get resolved. Without going into default on your payments, you won't be able to settle the accounts for less. Otherwise, this option really is considered the fastest and cheapest way to get out of debt.

Electronic Payment Laws

As a part of electronic payment laws in the United States of America, consumers have the right to stop the processing of any automatic electronic withdrawal associated with their bank account. No one can ever withdraw future money from your bank account if you prevent them from doing so. This is a right granted to US consumers via electronic payment authorization laws. If you ever want to cancel a prior authorization you gave for an automatic debit you have every right to do so. As a common courtesy, most financial institutions will remove any automatic debits from your account with your approval. However, it’s sometimes best to get it in writing to make sure that they don’t pull your payment without your authorization again (this has been known to happen to consumers). Additionally, you'll likely have some difficulty getting a refund on previously withdrawn payments as they've already been applied towards interest.

Amortization and Payment Plans

Debt consolidation loans and personal loans for that matter are usually amortized anywhere from 3 years to 6 years (although there's no general requirement). Terms can vary but many consumers go with a 36-month, 48 month or 60-month and go with the option that best helps them achieve their goals. Either to provide them with more breathing room or to get them to more aggressively pay down their debt. Debt relief on the other hand has an estimated payment plan setup for 2, 3 and even 4 years.

Payment plans vary for everyone, but payments will be a lot lower with a debt relief option since you're not paying interest and you’re getting a reduction in the principal amount. Comparatively speaking, consumers with a debt consolidation loan amortized over a 60-month period will still typically pay more per month than consumers who are in a 36-month debt relief program. The difference in payments can be quite significant.

Credit Impact

Debt consolidation loans will have the least impact to your credit worthiness since they are a loan option and you'll be paying the amounts off in full. With a consolidation loan, your score might drop initially simply due to the credit pull , but it will eventually go up in the long term. It will continue to improve as you pay down your credit card balances to zero and maintain a 0% utilization rate with those credit cards.

Debt relief is highly likely to have a negative impact to your credit score since you won't be making monthly credit card payments. Since you’ll be defaulting on your debt and no longer making minimums you should expect your credit score to drop. The impact will vary. If you're already late on your bills and your score has taken a hit, the impact your score might not be so severe.

Credit is finicky and a whole host of other issues and problems could hamper your credit, so it’s important you be mindful of this. Credit can very easily go up or down based on many different parameters. It’s important to always make timely payments on the accounts you have (excluding accounts enrolled in a debt relief program) as this should help offset any negative impact associated with your credit.

In regards to debt consolidation it’s very important that you don’t actually apply for too many different lines of credit and perform too many soft credit pulls. Too many soft credit pulls will negatively affect your credit score in the short term and could potentially hamper your ability to get future credit.

Qualification

In terms of being able to qualify for these two options, it’s going to be much more difficult to qualify for a debt consolidation loan as opposed to a debt settlement program. A debt relief program doesn’t technically have any qualifying parameters in terms of credit. These programs are typically designed for consumers that are undergoing financial hardship and are having difficultly making payments. Since you aren’t applying for a loan you don’t actually need to do a credit check for the program. On the other hand, you will likely want to have great credit to qualify for a debt consolidation loan.

You will need a good credit score and a good debt to income ratio in order to qualify for a debt consolidation loan option. You’ll also have your credit pulled and reviewed. Once an underwriter reviews your loan application you’ll either get approved (in which case you’ll receive terms on the loan offer).

Debt relief is going to be the cheapest option to get you out of debt in the shortest time frame, while also saving you the most money. You will typically need a $7,500 minimum debt amount in order to qualify, although this could vary from company to company and exceptions have been known to be made.

Debt consolidation loans are the best option for those looking to save money off the interest rate but I really wouldn’t consider them the best at getting people out of debt. Despite the fact, they’re difficult to qualify for, they are good at saving consumers money on interest. If you’re ultimate goal is to leave things in tact as they are now and save money on interest, this option will be your best bet.

All in all, these options are quite different from each other but they do both suffice as tools for getting out of debt, in their own way. Debt relief programs are great for maximizing savings and getting out of debt the cheapest way possible without doing a bankruptcy. On the other hand, debt consolidation loans are good for savings money from interest payments but they are limited beyond that.