Debt Consolidation
If you have not had a problem at one time or another with too much debt, consider yourself fortunate. Most bankruptcies are preceded by events that were not within the debtor’s control or reasonable expectations, such as sickness, disability, or job loss. If you have run into problems with unmanageable debt, there are several options that can help resolve the issues and put you back on the road to financial health.
Obviously, filing bankruptcy is one solution, and more than 1.5 million US consumers did just that in 2010 according to the American Bankruptcy Institute. However, depending on one’s particular financial predicament and ability to repay debt, there is a possibility of negotiating with creditors for a more favorable repayment plan and avoiding bankruptcy.
Rather than hire an expensive accountant or attorney to assist those negotiations, consumers have three other options: using the services of a debt consolidation company, a debt settlement company, or a credit counseling agency. The services provided by each are very different and, thus, will lead to different results and varying fees.
It is not unusual for a consumer to get behind on payments for multiple debts – a home, two cars, and several credit cards, for example. According to data released by the US Federal Reserve, American consumers are $2.4 trillion dollars in debt, excluding mortgage debt, or roughly $7,800 dollars for every man, woman, and child. Almost a third of that is unsecured debt, such as credit cards.
Debt Consolidation Companies
How Debt Consolidation Works
Debt consolidation companies work with you to consolidate two or more debts with high interest rates into one lower-interest debt and thereby reduce your total monthly debt payments. Your total debt does not typically change, but it leaves you with more money in your monthly budget to pay down the principle on that debt.
A debt consolidation counselor will first assess your total financial circumstances. She will want a list of all outstanding debts to identify each creditor, the balances owed, monthly payments, terms of the credit agreement, and whether the loan is secured or unsecured. She will next look at your income and monthly living expenses to understand how much money you have available to pay towards your debts. Finally, she will ask about any collateral you may have, including equity in real estate or vehicles, jewelry, or almost any other asset that could be used to secure a new loan.
If you still have sufficient credit to get a low interest, unsecured loan, the counselor might recommend that you simply borrow enough money to pay off multiple high-interest loans. Although less popular today, credit card companies occasionally offer zero or very low interest rates on balance transfers that can be used to consolidate multiple high-interest credit card debts. Or, if you have collateral, she might arrange for you to borrow against it to pay off those loans. The key is securing a new loan at a lower interest rate than the average of your existing loans.
Benefits of Debt Consolidation
The benefits of debt consolidation are lower total monthly debt payments and less financial risk due to owing a single creditor/payment rather than many. With more money available each month, you can repay the debt faster, pay on your home mortgage instead, or increase your savings.
Risks of Debt Consolidation
Your credit rating may take a hit if you suspend payments on any debt during negotiations. If you have pledged assets as collateral for a consolidation loan, they can be seized should you default on the new loan. Also, you may not be able to consolidate all your debts in the new loan, which means that you could still have other debt payments to make each month. Finally, while it is possible to reduce your monthly payments by extending the loan term, be aware that though consolidating several short-term, high-interest loans into one long-term loan may provide short-term relief, it will cost you more money in the long run if the interest is not significantly lower.
Debt Consolidation Fees
The fees charged for debt consolidation services vary widely. Unscrupulous providers charge an upfront fee just to do a credit analysis and, possibly, another fee once the transactions/negotiations have been completed. Other companies charge a flat fee to help you apply for the new loan or to negotiate with creditors. Many debt consolidations cost you nothing in professional fees, but you could pay other fees, such as charges to appraise your collateral and fees for title searches, filing of liens, and attorney fees if real estate is involved.
Who Will Benefit Most from Debt Consolidation
Debt consolidation is the best solution for consumers with high-interest, unsecured debts, such as credit cards, and access to low-interest credit, such as a home equity loan or zero-interest balance transfer. It is also important to note that this option is best for consumers who are able to pay off the full amount of their debt.
Part 2 – Debt Settlement
Part 3 – Credit Counseling Services