Are debt consolidation loans a way out? Or just getting you in deeper?
Debt Consolidation Loans
by Gary Foreman
Using a Personal Loan to Consolidate Debts
Debt Consolidation Calculator
Is Debt Consolidation a Good Idea?
Dear Dollar Stretcher,
What you would advise as far as getting loans to pay off credit cards. I have two of them with a minimum payment of over $100 a month. Its very hard to make that. Should I take a loan out from a bank?
I've tried doing balance transfers and I still end up having to use the card to help pay for the groceries that I can't cover with cash. It also gets used when it comes to car repairs and house emergencies. We don't use it foolishly only as a lifesaver for necessities. I am scared of having a late mortgage payment. That is going to happen this month for the first time. It seems things are getting worse financially. I really hope you can help us out.
Based on our mail Curly is not alone. In fact sources indicate that there are over 1.5 million people using credit counseling services to help them dig out of debt. So Curly has a lot of company.
Her question really has two parts. First, could a consolidation loan relieve the monthly payment pressure. And second, would that solve her debt problem?
It's likely, but not certain, that the consolidation loan would reduce the monthly payments. Without knowing what introductory rates she's found or how long they will last, it's impossible to tell for sure.
She'll need to know that most bill consolidation loans will want to use her home as collateral. That means that her home is guaranteeing the repayment of the loan.
The consolidation loan will probably have a lower monthly payment per $1,000 borrowed. That's accomplished by spreading the repayment of the loan over a longer period of time. So Curly needs to ask herself whether she'd rather struggle to pay $100 per month for 3 years or would she prefer to pay $50 per month for 9 years. That's a very rough estimate, but does explain the available options.
Trying to continue to find credit card 'teaser rates' is not likely to work. Issuers can identify 'swappers' from their credit report. It shows accounts that were open for a short time and then closed.
When potential lenders access her credit file, they'll also find the late mortgage payment that Curly says will occur this month. Those two facts combined make her an undesirable risk for credit card companies. So sooner or later she'll be facing a more normal credit card interest rate of about 16%.
Given what's happening to her payment record Curly could be facing even higher rates. If she misses her minimum payment she'll trigger late charges. Her interest rate will also go up. Rates of over 20% are not uncommon. And that will mean even larger minimums each month.
Curly will probably do best if she does try to consolidate her credit card debts. She'll need to shop for a lender that won't add a large 'origination fee' to the loan amount. She'll also want to see if the lender can demand immediate and full repayment. And, if so, under what circumstances. She doesn't want to be a few days late with a payment and have them demand repayment of the whole loan.
Consolidating the credit card debts is only half of the battle. She needs to understand how the balances were accumulated. To do that she will need to compare income to expenses. The bottom line is simple. If you spend more than you make on a regular basis, you're going to accumulate debt.
It's easy to pull out the credit card when cash is low. Millions of consumers do it every month. But Curly needs to consider what happens when she charges groceries. Suppose she can't afford to pay cash for the $100 worth of groceries in the cart today. When she uses her credit card she's agreeing to pay $115 for those same groceries over the next year or so. That's because she'll be paying for the groceries plus the interest on the money that she's borrowed. Each time she does that she digs the hole just a little deeper.
Would you like to
pay off your credit cards
in less time
for less money?
Curly says that they don't use the cards 'foolishly'. And that's good. But if they're spending more than their income, Curly will need to redefine 'necessities'. What exactly is a 'lifesaver'? Is that buying enough food to survive? Or does that include prepackaged convenience foods. It's easy for non-essentials to slip in with the really important expenses.
It's important to note that consolidating the debts will not solve the problem unless Curly's income is larger than her expenses each month. That's not meant to lecture Curly. Just to warn her that most people only get to consolidate their debts once. If they go back and do it a second time they're much more likely to be heading for bankruptcy.
Hopefully Curly will find a consolidation loan to help her out of the current payment problem. And then she'll find a way to make sure that they make more than they spend on a regular basis.
Gary Foreman is a former financial planner and purchasing manager who founded The Dollar Stretcher.com website and newsletters in 1996. He's been featured in MSN Money, Yahoo Finance, Fox Business, The Nightly Business Report, US News Money and CreditCards.com. Gary shares his philosophy of money here. You can follow Gary on Twitter or visit Gary Foreman on Google+. Gary is also available for audio, video or print interviews. For more info see his media page.
Take the Next Step:
- Stop struggling financially. Take these steps to get out of debt and begin the journey to financial freedom!
- Make sure you're not overpaying on your mortgage. If you haven't looked for a lower mortgage rate in the past year, use our simple tool that compares different lenders to see what your monthly mortgage payment could be. It's private, only takes a minute and could show you how to save thousands!
- Stop struggling to get ahead financially. Subscribe to our free weekly Surviving Tough Times newsletter aimed at helping you 'live better...for less'. Each issue features great ways to help you stretch your dollars and make the most of your resources. Subscribers get a copy of Are You Heading for Debt Trouble? A Simple Checklist And What You Can Do About It for FREE!
I often wonder if I should be seeking professional help to get my debt under control! Tell us: Yes, I'd like to find out if I am a good candidate for credit counseling or No, I don't think I need couseling but I would like to find out how I can pay off my credit cards more quickly.
More Debt Tips & Tools
- 6 smart strategies for paying off your credit cards
- 5 great second jobs to bring in extra cash
- Pay down debt now or save: Here's how to choose
- Can I get a debt consolidation loan with bad credit?
- Easy ways to build an emergency fund
- Key steps to break away from "keeping up with the Joneses" syndrome
- When you're seriously upside down on your auto loan
- This week's Readers' Tips
- Reduce your debt step by step
- Am I a good candidate for credit counseling?
- Do I have a debt problem?
- Compare personal loan rates
- Get free answers to financial questions
- Get free answers to legal questions
- Calculate the real cost of your debt
- Debt pay-down calculator
- Calculate the true cost of paying just the minimum