Debt Consolidation


You're fed up with your debts and the economy is in freefall. It's time to consolidate. Hold your horses. It's not as simple as strolling into your friendly neighborhood bank and asking for some money. Even after you've jumped through all of the hoops (paperwork, etc.), there's a few things for you to consider before pulling the parachute cord.


Consolidation Isn't Always The Best Option


Consolidating loans isn't the best option - most of the time. Most of the time, you can pay off your debts without using another loan. Another loan might reduce your monthly payment amount. It might slightly lower the interest on your total loan amount. So what? You'll end up making more payments, and possibly paying more interest as a result, than if you had just paid off your debts separately.

It's tempting to simply lower your monthly payment, since it seems like you're in a better place, financially. Who could argue with a broker who is offering to save you $200 every month? The problem with this approach is that it leaves the door wide open for you to go back into debt because debt consolidation doesn't address the main issue which is: spending behavior.


You Never Change Your Behaviors


One thing that most debt consolidation firms never tell you is how to really address the root cause of the problem. You're in debt for a reason. It's not the bank's fault, although it's possible that your bank might have made an error in judgment in making certain loans. You chose to take on all of this debt.

That's blunt, but that's the truth. If you want to pay off your debts, and remain debt-free, you need to change your spending behavior. Doing this is going to be hard. Changing behaviors is hard. Here's one idea: get a coach. No, you don't need to hire a professional coach. Get a friend or family member to help you.

Write down 5 major financial goals you want to accomplish. Then, build a budget around those things. Make those goals the most important things in your life. Every day, have your friend, family member, or whomever you choose call you or set up a meeting. Discuss your goals. Justify the money you spent today with your coach. Your coach's job is to hold you accountable to your budget.

This simple act - having a personal coach - will help keep you motivated because now you're answering to someone else. You're accountable. Over time, your behaviors will change and you may not need a coach, but in the beginning it's almost always necessary.


The Benefits


Once you've committed to forging new spending behaviors, you can start thinking about debt consolidation. While consolidation is usually not the greatest option, it can be made a great option if you're willing to do one simple thing: set aside a savings. A simple savings, while you're paying off a consolidation loan, can help you accelerate your debt payoff since the interest earned on your savings will help subsidize your loan payoff.

You can either use the interest, as earned, to accelerate the principal payoff, or let the interest compound until you can pay off the entire debt in one fell swoop. Either way, you'll be dramatically reducing the term of the loan as well as the total interest paid.

 

Other benefits of consolidation loans include:

  • Less stress about your finances
  • Fewer fights with your significant other over money
  • It's a great alternative to future bankruptcy (if you think you'll have trouble making payments in the future)
  • It gives you options - when you lower your monthly payment on your debts, you can choose to invest the savings in any way you like
  • You reinforce good spending habits when the loan is accompanied by a disciplined savings habit
  • You lower your interest rates and potentially save money over the long-term (if you pay off the loan early)

Most of the benefits of consolidation are oriented around making your life easier, simpler. That can be a good thing if handled properly.


Types Of Debt Consolidation Options


Before you ask your bank about loan options, you should understand your goals. Here are a few ways to go about consolidating your debts:

 

Unsecured Consolidation Loans - these are personal loans. A personal loan is pretty difficult to get unless you have excellent credit. The interest rates on these loans also tend to be higher than for secured loans. Don't expect a bank to lend you more than $25,000, with an upper limit of $15,000 being the norm for most people. Personal loans are good for consolidating small debts - typically unsecured debt like credit cards and other personal loans.

 

Credit Cards - Yep, credit cards. They're not just for getting into trouble anymore. They're for getting out of trouble if used responsibly. Most credit cards have balance transfer options. This is awesome if you have high interest credit card debt and decent credit and want to consolidate all your credit card debt onto one card. This is also something of a drawback with this method. Because of the nature of credit cards, they're really only good for consolidating credit card debt.

However, if this is what you need, then an introductory offer from a credit card company could save you thousands of dollars. Introductory rates are often well under 8 percent, sometimes under 5 percent. Occasionally, you'll find zero percent rates, but don't count on finding them for a balance transfer.

 

Home Equity Loans - Home equity loans, also called HELOCs, are some of the most popular loans for homeowners because they basically turn your home's equity into a credit card. The only difference is that the interest is much lower than most credit cards and the available balance is much, much, higher.

The loan is secured by your home, so if you default on it then the bank may foreclose on you. However, if you can afford the new loan with money left over, then the HELOC should not pose any serious threat to you. Best of all, you can consolidate just about any type of loan with a HELOC.

 

Regardless of what type of loan you get, you should be able to afford it comfortably. That means, you should always have enough money to build a meaningful savings in addition to making your new loan payment.