Types of Loans

• People often use mortgages or home equity loans to consolidate debts. The new loan replaces any existing liens on your home, and you can also extract extra cash to pay off credit cards, car loans and other debts. With a home loan, your loan balance can't exceed your property value.
  
  Lenders typically require you to have some kind of collateral if you take out a large-dollar consolidation loan. However, if you need to consolidate $10,000 or $20,000 of debt, your lender may allow you to take out an unsecured consolidation loan. With an unsecured loan, you don't have to contend with issues relating to the value of your home.
  
  

Mortgage Liens

• When you pay off liens on your home with a new home loan, the lender doesn't deposit the loan proceeds into your account, as the lender directly pays off the lienholders. Real estate liens are arranged in order of seniority, so your consolidation loan can only assume first lien position if the other liens have been released. The first lienholder has the first claim on your home if you go into foreclosure. To ensure its lien position, lenders always wire funds to real estate lienholders on the day of closing to ensure that no other liens remain on the home when the lender goes to record the consolidation loan at the county courthouse.
  
  

Debt-to-Income Ratio

• Lenders use a formula called a debt-to-income ratio to determine whether you can afford to take out a consolidation loan. Loan underwriters must ensure that your debt payments don't exceed a certain percentage of your gross income. If you pay off high-interest-rate debts with a new low-interest-rate loan, your debt-to-income ratio should remain at an acceptable level. If you keep your existing debts and credit cards open, you may not qualify for the loan. Therefore, the lender may pay off your other debts directly to ensure that your ratio remains at an acceptable level when the loan closes. Consequently, no loan proceeds are deposited into your checking account.
  
  

Other Considerations

• Your lender may feel that you have a sufficiently low debt-to-income level to take out a new loan alongside your existing debts. Although lenders always pay off real estate liens, your lender may deposit loan proceeds that you intend to use to pay off other debts directly into your checking account. You're responsible for paying off the other debts, but if you fail to pay off those debts, it doesn't impact your loan. If your lender requires you to pay off debts, then it pays off those debts directly. If your lender doesn't require you to pay off debts, then you're given the loan proceeds and can use the money for anything that you want.