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Debt Consolidation, Just Another Finance Trap?

What You Should Know About Debt Consolidation

Debt StressIf you have multiple debts that total several thousands of dollars, you may feel stressed and wonder how you will ever get out from under the burden of debt. If you are struggling to make even the minimum monthly payment, you may be looking for options on repaying your bills. As you consider your choices, debt consolidation may be a term you discover. While most people have heard of debt consolidation, they may not know exactly what it is or what it can do for them.

What is Debt Consolidation?

In simple terms, debt consolidation is taking all of your debts and combining them into one. There are several methods to accomplish this and it generally involves getting new personal loans for people with bad credit that will cover each of the individual loans. Instead of making multiple payments to several creditors each month, you only make one payment.

Certain types of debt consolidation will pay off each of your individual creditors and leave you with one bill to one lender. You may pay a lower interest rate, but it is not guaranteed.

One thing to note about debt consolidation is that it is not the same thing as debt settlement. With debt settlement, you pay a portion of the debt owed and the rest is written off by the creditor. You will pay back less than what you owed. With debt consolidation, you are still responsible to pay back all of what you owe, but it is combined into one debt.

While debt settlement may look like the more attractive option, it can do more harm than good. Your credit report will most likely show that the debts were settled for less than the owed balance, which will look bad to creditors that may consider providing credit to you. Any time a bill is not paid in full, it hurts your credit, even if the lender agrees to the reduced amount.

How to Know if Debt Consolidation Will Work For You

While debt consolidation is a viable means of managing your debt, it is not the right solution for everyone. You have to make the determination if it will work for you. You have several things to consider when deciding if you will use debt consolidation to ease your financial burden.

Do you have a regular income to make the payments? If you have lost your job and have no money available, you will not be able to pay off the debt even if it is just one payment.

Will reduced monthly payments help your financial situation? If lowering your payment will improve your budget, then debt consolidation is a viable option.

Can you make the payments on your own or even more than the minimum required amount? If you can, you may not benefit from a debt consolidation plan unless you can get a reduced interest rate.

What kind of debt do you have? Not all debts can be combined into a single payment. It usually only works for unsecured credit, such as credit cards and medical bills.

Do you have a good credit rating? While you can find options for debt consolidation if your credit score is low as a result of your debt, you will be more limited than if you still have good credit. Do you have the self-discipline not to accumulate more debt? Debt consolidation only works if you can curb your use of credit and learn to pay off your debt.

The Pros and Cons of Debt Consolidation

Before you decide to use debt consolidation to handle your debt, you should weigh the advantages and disadvantages of the method. Once you understand what you are committing to, you will know if it is the right decision for you.

Benefits of Debt Consolidation

The main benefit of debt consolidation is that you will lower your monthly payment. By combining everything into one payment, it can save you money in your monthly budget. If you are overextended and pay more in bills than you make in income, this can help you to be able to live within your budget. This is often the reason people choose to consolidate their debts.

You may pay a lower interest rate with a consolidated loan than you are on some of your individual credit. This is especially true if you have had some late payments on credit cards; they often raise your interest rate immediately if you have not paid on time.

It can be easier for you to manage your debt if you only have one payment to make each month. It can be difficult to remember due dates and minimum payments on multiple accounts. This can result in late payments with additional fees incurred.

Disadvantages of Debt Consolidation

If your credit rating has suffered because of your debt, you may find it difficult to get a lower interest rate. If the rate on a consolidated loan is the same or higher than what you are currently paying, it may not benefit you to have your debts combined.

You can end up being in debt longer with a debt consolidation loan. You still owe the same amount you did, but the debt may be extended to lower your monthly payments. If the time has been extended for a longer period, you may end up paying more interest even if the rates are reduced.

You may need a co-signer if you have already hurt your credit rating. Lenders do not like to lend money to people who are having difficulty making payments on what they already owe. You may have heard the comment that lenders only like to lend money to people that don't need it. This is a fact since they can be more certain that those people will be able to repay the loan.

If you choose to secure your debt consolidation loan with collateral such as your home, you risk losing that asset if you are unable to make the payments.

Before you attempt to consolidate your debts with payday loans for bad credit, think about both the positives and negatives of such a loan. Only you can know which one outweighs the other for your situation.

Using a Debt Management Company to Consolidate Your Debts

A debt management company can help you consolidate your loans into one affordable monthly payment. These companies are often listed as credit counseling agencies or debt management programs. This type of debt consolidation can be your only option if you have a poor credit rating or you have gotten behind on your payments.

Not all debt management companies take people with low credit scores, but you will be able to find one that does. This can be a viable option if you are unable to get your own consolidated loan.

A debt management company contacts the creditors for you and negotiates a lower payment and/or reduced interest rate. They may also negotiate a reduced balance in the form a debt settlement. If you are not interested in a settlement, you want to let the company know that.

Once they have worked out a deal with all of your creditors, they will provide you with a statement showing your total monthly payment and how much of that will go to each creditor. You will most likely have a monthly fee to the debt management company as part of your payment to pay for their service. The other option is that they may ask you to pay them upfront.

Benefits of Working with a Debt Management Company

Working with a debt management company can improve your credit after a few months.

Choosing to work with a debt management company is a decision only you can make. Some people feel that it reduces their stress since they no longer have to deal with the individual bills and creditors.

The idea that someone is on their side can provide relief and make them feel hopeful about the situation. However, it is advised to be cautious when choosing a debt management company. Check with the Better Business Bureau and look for reviews. There are companies that are only interested in getting the fees from you and are not really doing you a service at all.

Shop around before you select a company to work with. Calls from creditors can make you feel pressured to solve the problem now, but take the time to find the right company to work with or you will just be trading one problem for another.

Below are some tips to finding a good debt management company:

Choose a company with reasonable fees. There are low cost options that will not add another large bill onto your monthly total.

Make sure they put everything in writing, including how much they will be paying each creditor.

Look for one that is accredited. You can check with the American Association of Debt Management Organizations for a list of recognized companies.

Find out how they guarantee that payments won't be late. You do not want to be charged late fees because the company only sends payments on a certain day and does not get it approved by the creditor.

Ask if you can make more than the minimum monthly payment and how it will be applied. You should have an option for which creditor you will give the excess payment to. If given the option, choose the one with either the highest interest rate or biggest balance.

Once you begin working with a company, make sure you read all of your monthly statements to know that payments are being made and that the company has not gone out of business.

Do-It-Yourself Debt Consolidation

The other option for getting your debts consolidated is to do it yourself. Some people do not trust the debt management companies and would rather retain control of their credit decisions themselves. There are both benefits and detriments for handling debt consolidation on your own.

Advantages

Disadvanages

Whether you can handle your loan consolidation yourself or if you need to rely on a company to help you will depend on your credit and what you are willing to do. There are good and bad sides to both options.

Different Types of Debt Consolidation Loans and How to Choose

If you will be handling your own debt consolidation, you have several options to choose from. Understand each one and choose the best alternative for your situation.

Home Equity Loan

This option is usually the first one considered when consolidating debts because you can usually get a big enough loan to pay off all of your other debts. You would need to have quite a bit of equity in your home to be eligible, but you would likely get a lower interest rate with this type of loan. However, most credit experts warn you to avoid this option because you risk losing your home if you cannot make the payments.

Unsecured Debt Consolidation Loan

This is a personal loan that you would get through a bank to use to pay off all of your creditors. If you can qualify for this type of loan, you would probably get a decent interest rate that is much lower than what you are paying. The problem is that to get this loan, you would need excellent credit. You would be most likely to qualify for an unsecured loan if you are just now beginning to have difficulty with your payments, but have not fallen behind yet. If you wait until you are behind on payments, you will not be eligible.

Credit Card Balance Transfers

Another option for consolidating your bills is to put them all on one credit card with an introductory offer of a low or no interest. For this to benefit you, it is essential that you know how long the introductory offer is valid and what the interest rate will be at the end of that period.

You will need to have good credit to qualify for a credit card with a limit large enough to cover all of your other debts. The issue with this is that it will lower your credit rating to use up that much of your available balance.

Debt Settlement

Debt settlement is something you can explore on your own instead of going to a debt management company. You would be required to speak with each of your creditors and negotiate terms. However, this is something you can do without paying a professional.

If you have been making your payments, the creditor may refuse to settle with you, but if you have not been paying on the debt or it has been charged off, they may consider a settlement. For them, a partial payment is better than none. If you choose this route, make sure you get any agreement in writing so that they do not continue to pursue full payment once the agreed-upon amount is paid.

The downside to this method is that it will be reflected on your credit report and will cause serious damage. If you are already behind in payments and you cannot pay the balance in full, this may be the only option to stop the creditors from pursuing you. Just be aware that this decision will stay on your credit report for seven years.

If you are unsure which options you are eligible for and which ones would be the best choice, you can discuss your situation with a credit counseling agency. Unlike a debt management company, they are not managing your debt. They are only advising you and assisting you with managing your own. They may charge you a fee for their time, but they will often provide valuable counsel and help you make your own decisions after giving you information about what is available.

Credit counseling agencies may also have classes to help you with your finances, such as learning how to budget and how to handle credit wisely. This is an important part of any debt consolidation plan to prevent you from making the same or more serious mistakes in the future.

Once You Decide to Consolidate

If you have decided that debt consolidation is your best answer, you will need to take several steps to put things in motion.

First, know what and how much you owe. Go through all of your statements and get the most recent balance for each one. You will need account numbers and totals, along with the interest rate being charged.

Second, sit down and create a budget. Figure your total expenses for the month so that you will know how much you have to put on payments to a consolidation loan. If you are not sure how to create an accurate budget, talk with a credit counseling company and they will help you come up with some totals.

Third, gather all of the information you will need to apply for a debt consolidation loan. This will mean W2s or paycheck stubs, along with any other paperwork the lender will require. You may want to call ahead and ask what you will need to bring.

If you are turned down for a loan, ask the lender what you need to do to be approved. Some of them will be honest with you and say that you need to reduce your balances or increase your income. Once you have that knowledge, work on the issue and reapply. If you need to reduce the balance and you can afford to increase one or two of your payments, do that for two or three months and then go back to the lender.

If you need to increase your income, get a second job. Often, doing these little things will show the lender that you are serious about removing your debt and they will be willing to work with you to get a loan.

Conclusion

According to surveys that have been done by financial experts, 78% of people who get a debt consolidation loan will have the debt grow back. Debt consolidation only works with a change in spending habits. You have to look at the overall picture of your debt and create a plan that will remove the debt and prevent you from getting back into debt in the future.

Debt consolidation can be an option worth considering if you have a large amount of debt or are having trouble making your monthly payments. However, there are many plans and you must know which one you will qualify for and will benefit you the most. Do not let the stress of the situation hurry you into a decision; take the time to understand each option and make your selection based on your situation.

Do not be afraid to ask for help with debt counseling or to ask questions of lenders. A debt consolidation loan is a long-term solution, not a quick fix. You have to be committed for the duration for it to work.

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