By Nicole Harms
Overview
As you struggle to pay your credit cards month after month, you are probably looking for any way out of your situation. You have probably considered debt consolidation, but you may wonder if the debt consolidation programs you have seen advertised are legitimate. Before you sign up for one of these plans, learn all you can about the benefits and risks of consolidating your debt.
Function
Debt consolidation programs work by taking a consumer's existing debt, which typically has a high interest rate and rolling it into one loan, usually a low interest loan. This, in theory, saves the consumer money on interest, making it easier to get out of debt. Often the monthly payment amount on the debt consolidation loan is lower than the total monthly payments the consumer is currently paying on the debt. This structure can be helpful and is not necessarily bad, but it can be dangerous.
Danger
The danger of a debt consolidation program is that it tends to lead to more debt. Because the consumer has a more "affordable" debt, he often feels that it is fine to start charging on his credit cards again. Additionally, the cards that were once at their maximum are now open and available for charges. When an emergency occurs, those credit cards are the first place the consumer turns. According to Chris Viale, general manager of Cambridge Credit Corp., nearly 3/4 of all Americans who take advantage of consolidation programs will have the same amount of debt, or more, after 2 years.
Types
There are several different types of debt consolidation. Some consumers use unsecured personal loans with a relatively low interest rate when compared to credit cards. Others consolidate debt by taking advantage of low or zero-percent interest rate periods on a new credit card. Those who are homeowners can use the equity in their homes to finance a debt consolidation loan and since a home equity loan is a secured loan, the interest rate is lower than the credit cards in most situations.
Expert Insight
So are debt consolidation programs bad? They are not bad if used correctly. If you can find a debt consolidation program that offers an interest rate that is lower than the average of the interest you are currently paying, you can save money. However, you must be disciplined enough to stop using your credit cards in order to benefit. If you continue to add to your debt, you will be in a worse situation than you started with after you consolidate your debt.
Prevention/Solution
The true solution to too much debt is figuring out a way to manage it. You must start a budget and you must stop putting more debt into the mix. Reputable credit counseling programs can help consumers who have too much debt learn how to manage it. Credit counselors can also teach consumers how to negotiate with their creditors to get lower interest rates or monthly payments. Working with a credit counselor also adds some accountability to the picture as you work your way out of debt.
Warning
If you do choose to use a debt consolidation program, choose carefully. Before you go with the program offering the lowest interest rate, look at any fees you will pay, as these can add up quickly and make the lowest interest rate loan the most expensive option. Find out how long the interest rate is going to last and what will happen to it if you are late on one month's payment. Also, find out what the monthly payment will be, as you need to be sure you can afford it.
Are Debt Consolidation Programs Bad? by aboutdebtconsolidation.net