Be Careful When Using Debt Consolidation
Readers are always asking about debt consolidation programs. What are they and what do you need to know about them? Debt consolidation programs are usually just a big loan that pays off other smaller loans. They can be very beneficial to borrowers, but these programs also have their pitfalls.
Debt consolidation programs are good for a few situations. If you are paying several different loans off, your life may be easier if you consolidate everything into one loan. You'll only get one monthly statement and make one payment. Also, you'll find that your monthly debt payments decrease if you use a debt consolidation program that stretches your payments out over a longer period of time. This means that you'll pay out less each month and you can free up some cash.
A tempting (and sometimes successful) strategy is to use a debt consolidation program to manage various high-rate revolving debts. As an example, you might have numerous credit card balances with high interest rates. With a debt consolidation program, you might be able to get a handle on that debt and lower the interest rate (APR) that you're paying. In general, credit cards have higher rates and secured loans (such as home equity loans) have lower rates.
Using debt consolidation programs can help you or hurt you. You should be very aware that all these programs do is shift your debt - a debt consolidation program does not eliminate your debt. You owe the money and will have to pay it back sooner or later. One pitfall of a debt consolidation program is that you may feel like you have less outstanding debt. For example, you'll notice that your credit cards once again have generous amounts of available credit. If you use this credit you'll only dig yourself into a deeper hole.
You should also be aware that you may end up paying more total interest if you use a debt consolidation loan. If you stretch out your payments over a longer period of time, it is possible that your total interest cost will be higher. Of course, it may be worth it to you if you can more easily manage your cash flow today.
Finally, remember what you're risking by using one of these programs. Often, you'll use a home equity loan or a home equity line of credit to consolidate your debt. The consequences of falling off the payment schedule can include the loss of your home in some cases. Credit card companies can't take your home. However, if you pledge your home as collateral in a debt consolidation program then your house is fair game for a foreclosure.