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Debt consolidation is the process
of combining several of your small
debts (and monthly payments) into
one larger debt (and payment).
On the surface, this may sound like
a bad idea. But if done properly,
consolidating your debts can provide fast relief from the suffocation and anxiety of being under a crushing mountain of debt. If properly planned, debt consolidation usually results in one monthly payment that is much lower than the combined amount of all of your previous smaller debt payments. It's quite common for debt consolidation to reduce total monthly debt service by 50% or more!
Credit cards are by far the most common cause of a crushing debt load. The interest on these accounts can be upwards of 21%. And to add insult to injury, the minimum amount due when each statement arrives allows for retiring just a very small amount of the principal balance. In other words, if you pay just the minimum amount due month after month, it will take years to pay off that account!
And if you continue using the card on a regular basis, the principal balance will actually grow over time instead of shrink. Multiply this by 5 to 7 credit cards (the national per-person average), and you begin to realize the importance of debt consolidation.
The process of consolidating your debts is very simple and straightforward. You simply contact a couple of lenders and tell them that you're interested in a debt consolidation loan.
First, they'll have you fill out a detailed loan application. Be prepared. Have with you a list of all of your debts, including account numbers and balances. You'll also need your tax returns from previous years (at least the last two) and your two most recent check stubs.
Next, they'll ask you some basic lifestyle questions. They'll want to get a handle on why you got into a financial bind in the first place. After all, they'll want a reasonable assurance that you won't do the same thing again.
The prospective lenders will verify your sources of income, review your credit history, and make you an offer for a debt consolidation loan according to their evaluation of all of this information. Each lender will offer you an interest rate and repayment term for a debt consolidation loan.
Evaluate each offer and choose the best one for your circumstances. In general, the lower the interest rate, monthly payment, and length of the loan term, the more attractive the loan.
Another consideration is the number of points (if any) that you'll be required to pay. Points are simply an up-front, one-time payment to the lender. Each point is 1% of the debt consolidation loan amount. Try to choose a loan with no points if at all possible.
Debt consolidation can help most people who are suffering from a crushing debt load. Consolidating your debts isn't something to rush into blindly though.
A poor debt consolidation plan can leave you in worse shape than you were in before you consolidated your debts! Here is a list of things to consider before applying for a debt consolidation loan:
- How large a monthly payment can you comfortably handle after debt consolidation?
- Have you fixed the problem(s) that caused you to get into financial trouble in the first place? For example, have you cut up your credit cards? Have you changed any bad habits, like making lots of impulse purchases?
If not, consolidating your debts will just lead to a large payment each month accompanied by several new debts to service. Debt consolidation is effective at relieving cash flow problems only if you have your spending habits under control.
- Do you have a complete list of all of your current debts, along with the payoff amounts and account numbers? You'll need to make sure you consolidate all of your debts or your debt consolidation plan may well set you up for more problems, not fewer.
If you do your homework before you apply for a debt consolidation loan, you can avoid the common mistakes that many others make. You deserve the relief that you can expect if you consolidate your debts. Just don't fall into the common trap of ending up in even worse shape than you were in before you completed your debt consolidation.
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