Debt consolidation vs loan restructuring: which is better?

Debt consolidation vs loan restructuring are the two poles of the earth. Debt consolidation focuses on combining multiple debts into one for credit score building, whereas loan restructuring focuses on the reactivation of the ongoing loan through negotiation with lenders, which hampers the credit score. The only similarity is that both are practised during a financial crunch, but loan restructuring is practised during more intense financial difficulties faced by the borrowers, which is rare but possible. 

Key takeaways: 

1. Debt consolidation is the action of consolidating loans into one form of debt or loan to repay it and build the credit score. 
    
2. Loan restructuring is the action of re-managing the loan policies by negotiating with the lenders.
    
3. Debt consolidation is often considered a better option due to the credit score-building facility it provides. 
    
4. Loan restructuring is a possible practice only when there is a hard financial crunch with the borrower’s situation. 

What is debt restructuring?

Debt restructuring, which is also known as loan restructuring, is used when there is significant financial difficulty on the borrower’s side. It is mainly done through negotiating with the lender who provided the loan to the borrower. 

It is completely different in comparison to debt consolidation. Debt restructuring needs complete reconsideration of the terms and policies, whereas in debt consolidation your existing debts are combined in a single loan.

Here are the impacts of debt restructuring: 

1. The negotiation is a 50-50 possibility; this is because sometimes the lender can agree to lower your loan debt margin or interest rate, and sometimes the lender does not agree to do so. 

2. Restructuring a loan can impact your CIBIL score negatively. It temporarily lowers your credit score, which is difficult to rebuild.

3. Debt restructuring also makes lenders lose money, as the cut is made to the debt margin or interest rate. In short, debt restructuring is a loss-making machine.

On the other hand, debt consolidation is the practice of consolidating multiple debts into one loan, and the borrower pays only a single instalment per month until the loan is repaid. But debt consolidation is not only practised in the form of taking a loan; one can also practise this through a balance transfer.

What is debt consolidation? 

Debt consolidation is practised when one is facing a financial crunch in life and is planning to take another loan in the future. It helps borrowers to combine their multiple existing debts into one single loan. Through this, they can rebuild their financial credit score. This helps to mitigate their multiple financial burdens. 

Here are the impacts of debt consolidation: 

1. Debt consolidation lowers the credit score initially, but it boosts the credit score once the repayment becomes regular. 

2. Debt consolidation reduces the financial burden on the borrowers, as they have to pay a single EMI every month instead of multiple EMIs. 

3. Debt consolidation brings flexibility in terms of interest rate, tenure, etc., which is totally dependent on the borrower’s credit or financial profile.

Hence, this is how debt restructuring is different from debt consolidation. 

What are the pros and cons of loan restructuring? 

Loan restructuring has both good and bad faces, which is totally dependent on the borrower’s financial situation. But it is the difficult option one has to take to cover the debt if they face intense financial hardship. So, loan restructuring comes with a do-or-die situation. 

Loan restructuring is the reactivation of the ongoing loan with the lender’s approval, which is also not guaranteed. But covering the loan is the priority, and the option that is left with the borrower in an intense financial crunch is loan restructuring. 

Pros of loan restructuring: 

Though loan restructuring comes with major consequences that borrowers never expected, there are certain advantages of loan restructuring.

• Can make things easier: If you’re struggling to keep up with payments, changing the repayment terms may give you some breathing room and make your monthly budget easier to manage.
• Good credit may not be necessary: You may still be able to discuss restructuring with your lender even if your credit score isn’t strong. The options available usually depend on your financial situation and the lender’s hardship policies.
• Can help prevent default: If you’re already falling behind on payments, restructuring may help you get back on track and reduce the chances of the loan or credit card account going into default.

Hence, these are the major advantages of loan restructuring.

Cons of loan restructuring: 

Cons of loan restructuring need major consideration by the borrower because your credit score and your financial planning get heavily impacted. 

1. Loan restructuring can cause damage to the borrower's credit score and the borrower’s financial health, which is difficult to rebuild. 

2. Loan restructuring can bring loss to the lender and the borrower at the same time; this is because the borrower is already at a loss, which is why he did loan restructuring. But the lender, who gets a lower amount in return, also incurs a loss. 

3. One needs to pay additional fees or charges to change the existing loan. These fees or charges also vary from bank to bank. 

4. Loan restructuring also makes it difficult for the borrower to get future loans from the banks, as it damages the financial position and score, though initial relief is provided to the borrower. 

Hence, these are the reasons why loan restructuring is not good for the borrower to overcome or relieve the debt. 

What are the pros and cons of debt consolidation? 

A debt consolidation loan is a loan that is given by consolidating multiple loans for borrowers at a lower interest rate with longer tenures. 

Pros of debt consolidation: 

Debt consolidation eases repayment for the borrower, as they only need to pay a single instalment each month to cover all the multiple debts. 

• Possible interest savings: If you qualify for a consolidation option with a lower interest rate, you may be able to reduce the amount you pay towards interest over time.
• Easier to manage payments: Instead of keeping track of several different bills and due dates, you can combine your debts into one monthly payment.
• A clearer repayment plan: A consolidation loan can give you a fixed monthly payment and a set repayment period, making it easier to know when your debt will be paid off.

Hence, these are the major advantages of debt consolidation.

Cons of Debt Consolidation:

Though debt consolidation brings a major positive impact in terms of consolidating multiple debts, there are certain disadvantages one needs to know.

• May require a good credit history: Getting a consolidation loan or balance transfer card with favourable terms can be difficult if your credit history is weak.
• Some fees may apply: Depending on the option you choose, you may have to pay processing or other upfront fees, which can add to the overall cost.
• Could lead to more debt: Consolidating your existing balances does not prevent new borrowing. If you start using your credit cards again after paying them off, you could end up managing both the new loan and fresh card debt.

Hence, these are the major cons of debt consolidation.

What is debt consolidation vs. loan restructuring? 

The core difference between debt consolidation and loan restructuring is in terms of nature, scope, functions, and eligibility. 

In economics, though, both fall under the aspect of debt management; debt consolidation and loan restructuring are different forms.  

The table below shows the core difference between debt consolidation and loan restructuring: