Debt Free

Debt consolidation loans; they’re touted by numerous radio and TV ads as the way you can eliminate debt and rebuild your financial life. Hell, I’m surprised they don’t claim that one of these things can give you a better sex life, free baseball tickets and lower cholesterol! Despite the best written lines of advertising agencies everywhere, debt consolidation loans do not “eliminate debt”. They merely move debt around some. The key is how they move it around, and at what cost.

These loans are like many other financial products; they may be the perfect solution for some people and a financial curse for others. It all comes down to your reasons for being in debt, your current income, the stability of that income, and your financial discipline. It’s that last one that’s the key to the puzzle. If you have relatively poor financial discipline, a debt consolidation loan is almost certainly a recipe for disaster. All you’ll accomplish is to erode the equity in your home and end up deeper in debt than when you started.

Oh, you may end up with a memorable vacation or new plasma TV too. How is that? Well, in the case of creditors with an inability to restrain themselves, the lower monthly payments provided by the debt consolidation loan give a euphoric feeling of financial well being. It’s kind of like financial crack. Since the borrower’s monthly cash flow is reduced, they feel like their financial position is so improved that they can afford to spend some money. That is almost always a huge mistake.

They (it’s “they” again) don’t let you in on this little secret, do they? Spending control is vital to any financial security program. Reigning in spending to a level where it lags income is the only way to get out o’ debt, mate. A debt consolidation loan will reduce monthly spending. If you stay there, it can really help. They can give the illusion of financial good fortune, however. Remember how you got in debt in the first place. Frequent trips to the mall, club or eBay have got to stop before you end up right back where you started, but with a new debt (the debt consolidation loan) to boot.

Lowering interest rates is always a good thing. Any time you can pay less for your money, you should do so, all else being equal. Just remember that other things go along with that lowering of the interest rates. If you get such a loan, make sure there are no prepayment penalties, just like a mortgage. In most cases there won’t be any, but if the lender thinks they really have you over a barrel, there may be one of those dreaded clauses in the contract. Make sure you really read the damned thing!

Debt Consolidation Loan Secret 1
Your total interest payments may, in fact, be higher than the credit cards you’re replacing. Then again, they may not be. It’s up to you to determine this. Look at the amount of the loan, the interest rate and the term. If the loan’s term is long enough, you could wind up paying more in total interest, even though the interest rate and monthly payment is lower.

Debt Consolidation Loan Secret 2
You don’t always get a realty low interest rate on one of these loans. It depends on your credit score. If you have too many credit cards and you’re struggling financially, there’s a good chance you’ve missed payments, had late payments, and your credit utilization score is too high. This will mean your credit score is probably pretty low. Now you’re at the mercy of the lender. They can charge you pretty much whatever they want to. Because a debt consolidation loan is a secured loan, the interest rate will probably lower than your credit card interest rate, but if that’s 18% - 29%, that’s not saying much, is it?

Debt Consolidation Loan Secret 3
If you have no collateral, such as real estate, you are probably not going to get a loan. On the radio ads, they may make it sound as if anyone can just “lower their monthly payments and eliminate debt”, but that’s because you are going to secure your debt with significant collateral. If you haven’t the means to do so, you’ll probably not find a lender willing to loan you any money.

Think about it from the lender’s perspective for a second. If you’ve gotten yourself overextended with numerous credit cards, you probably represent a substantial credit risk. Why would any investor want to loan you money at a favorable interest rate? You may find a loan, sure, but the interest rate may border upon usury.

Debt Consolidation Secret 4
You can easily lose your home if things turn ugly. This isn‘t really a big industry secret, but too few people really consider the full import of putting their home on the line when they get one of these loans. The next time you’re cruising down the 405, look at those prime accommodations in the shadow of any overpass and think about the whole thing again.