Debt Consolidation loans are designed to help consumers in need of financial relief. They operate on the principle of combining your debts and consolidating them for simplified payoff. They also come with promises of saving you significantly on interest. While, in some cases, these claims can be justified, they are not always true and not everyone benefits the same. Decide for yourself before deciding that a debt loan is your best option.
Video: How to find a debt consolidation company you can trust
Reasons why debt consolidation may not work for you:
Already in default on payments to creditors
In foreclosure on home or other personal property
Have already declared bankruptcy in the past 10 years
Already have one or more consolidated loans
Cannot make payments on any loans due to illness or unemployment
If any of the above situations apply, consideration of bankruptcy or debt settlement would be a more prudent option.
How debt consolidation works
Debt consolidation loans work by borrowing to pay off existing debt. This is achieved by combinin your current loan and credit line amounts into a single lump sum. This sum is then borrowed against in the form of the consolidated loan. The money from the new loan is used to pay off the old debts at once. The borrower is responsible for making payments only on the new loan.
Secured vs. Unsecured
Secured debt consolidation loans use an item of your personal property — typically a home — as collateral against your loan. This loan option will provide a lower interest rate because the lending institution faces less risk. On an unsecured loan option, the loan is based on the borrower’s income and credit rating. This loan typically will have a higher interest rate.
Why debt consolidation loans don’t work
Debt consolidation loans often don’t work for one simple reason. The borrower does not change spending habits. After consolidation of existing debts and bills, the borrower starts to charge on the credit cards which have been cleared of balances. This is a cycle and can only be addressed by maintaining fiscal discipline and formulating a budget. One simple trick to remedy this is to quickly destroy those credit cards once they have been paid, eliminating temptation to return to debt.
Video: Understanding secured debt consolidation
Another Pitfall: Unscrupulous Debt Loan Lenders
In recent years there has been an explosion in the market with the growth of thousands of companies offering debt consolidation loans. The truth is many of these companies are scams. Some simply take your money and leave while others fail to make good on your payments to your creditors. Should that happen, not only will you lose any money paid to your consolidator, your credit history will also be severely negatively impacted for default of payments. Follow this easy guide to avoid one these companies:
Use debt consolidators registered with the Better Business Bureau (BBB)
Read online reviews of different companies by other borrowers
Never pay for any services up front
Try a non-profit debt consolidation company
Use common sense when consolidators make erroneous promises such as reducing your debt by up to 90%
Ask for copies of all contracts in writing prior to signing
Request to have the service they will provide explained step by step
Keep an eye on your payment schedule
One key to debt consolidation loans that many fail to see is that these loans need to be paid off for substantial periods of time. A significantly lower payment can be beneficial, but bear in mind that many of these terms are for 15 years or more, similar to a mortgage. Do the math and decide if the current credit card and other bills are worth paying off for the next decade. Make sure interest is calculated over the entire length of the loan period before choosing a debt loan. Don’t be fooled by the low monthly payment, its how much you pay in the end that matters.
Reasons why debt consolidation may not work for you:
Use debt consolidators registered with the Better Business Bureau (BBB)