Debt consolidation in Scotland

Debt consolidation means taking out one new loan to pay off several existing debts, so you make one monthly payment instead of many. It does not reduce what you owe, and you pay interest on the new loan. If the loan is secured on your home, your home could be at risk if you fall behind.

This page explains how consolidation loans work and what can go wrong. It is general information, not a recommendation. This site does not arrange loans, compare lenders or quote rates.

What is a debt consolidation loan?

A consolidation loan is an ordinary loan that you use to clear other debts, such as credit cards, store cards, overdrafts and personal loans. Instead of paying several creditors, you pay one lender.

National Debtline, the free debt advice charity, describes the basics like this:

• There is no set minimum or maximum. It depends on what the lender is willing to lend you.
• You can include whichever debts the lender allows.
• It lasts as long as it takes you to repay the new loan.

There are two main types:

• Unsecured loans. The lender relies on your promise to repay. If you fall behind, your home is not at risk in the way it would be with a secured loan, but the lender can take court action to recover the money.
• Secured loans. The loan is tied to something you own, usually your home. You may hear this called a second mortgage, second charge or further charge. Some lenders will only lend to a homeowner on this basis.

What are the risks?

Consolidation can work for some people, but it has real risks. These are the main ones.

A secured loan puts your home at risk

Citizens Advice Scotland says all secured loans give the lender similar rights to repossess your home if you do not keep up repayments. You are also likely to be charged legal, administration, valuation and other fees to set one up.

There is a second, less obvious risk. Credit cards and most personal loans are unsecured. If your situation got worse later, unsecured debts can be included in Scottish formal solutions, and some of those can end with the remaining debts included being written off. Secured debt is treated differently: the lender keeps its security over your home. Turning unsecured debt into a secured loan can therefore narrow your options later.

A longer term can cost more overall

A lower monthly payment often comes from spreading the loan over a longer period. Even at a reasonable rate, paying interest for longer can mean you pay more in total than you would have paid on your original debts. Always compare the total amount repayable, not just the monthly figure.

The interest rate may change

If the loan has a variable rate, your payments can go up during the loan. That makes the total cost harder to predict.

It can lead to more borrowing

Once your credit cards are cleared, the credit limits are usually still there. National Debtline warns about the temptation to use them again. If that happens, you end up with the new loan and new card debt on top.

You may be refused, or offered poor terms

If your credit record already shows missed payments, a lender may turn you down or only offer a loan on worse terms. Be wary of any offer that seems to depend on putting your home up as security.

Are there any advantages?

To be fair, there are some. National Debtline notes that:

• You have one monthly payment instead of many, which some people find easier to manage.
• The new payment should be lower than your old payments combined.
• Paying off debts with a consolidation loan is less likely to affect your ability to get credit in future than a formal debt solution.

That last point matters. Formal solutions such as a trust deed or DAS go on your credit file for six years or more and appear on a public register. A consolidation loan does not, as long as you keep up the payments.

When might a consolidation loan be worth considering?

Whether a loan suits you depends on your whole situation, and an adviser can look at that with you. In general terms, people who find consolidation works for them tend to be in a position where:

• they can already afford their debt repayments and mainly want them in one place;
• the total cost of the new loan is lower than the total cost of the existing debts;
• they are not relying on securing the loan on their home;
• they can close, or will not reuse, the cards and accounts they pay off.

A loan is much less likely to help if you are already behind with payments, if your income does not cover your essential bills, or if creditors have started court action or sent sheriff officers (court officers who enforce debts in Scotland). In that situation, a new loan may simply move the problem and add interest. Free, impartial advice is available from free debt advice services in Scotland, and they will not try to sell you a loan.

What are the alternatives in Scotland?

The main alternatives are:

• The Debt Arrangement Scheme (DAS). You repay your debts in full through a debt payment programme. Interest, fees and charges are frozen from the date you apply and written off when you complete the programme. A money adviser cannot charge you to set it up. It goes on the public DAS Register and on your credit file.
• A debt management plan. An informal plan to repay non-priority debts at a rate you can afford. It is not legally binding, and creditors do not have to freeze interest.
• A protected trust deed. A formal arrangement with a licensed insolvency practitioner, usually lasting 48 months. If it completes successfully, the remaining debts included in it are written off. It has fees, affects your credit rating for six years, and homeowners may need to release equity. See what a trust deed is.
• Sequestration (bankruptcy in Scotland) or the Minimal Asset Process. Formal routes for people who cannot repay their debts. They have serious consequences and need a money adviser.
• A moratorium. Six months of protection from diligence (the legal steps creditors use to enforce a debt, such as arrestments) while you get advice. It does not freeze interest.

What should you check before you borrow?

If you are still thinking about a loan, these questions can help:

• What is the total amount repayable over the whole term?
• Is the rate fixed or variable?
• Is the loan secured on your home or anything else you own?
• What fees are there to set it up?
• What happens if you miss a payment?
• Will the loan clear every debt, or will some be left over?

The FCA advises checking any firm you deal with on its Financial Services Register. And if you are unsure whether you can keep up the payments, speak to a free debt adviser before you sign anything.

Official sources

• National Debtline: ways to clear your debt in Scotland
• Citizens Advice Scotland: mortgages and secured loans
• Citizens Advice Scotland: personal loans
• mygov.scot: the Debt Arrangement Scheme
• FCA: unauthorised and unsuitable debt advice