Is Debt Consolidation A Good Idea?

Photo of Charles from InfoSpike.com By Charles / Last modified: December 18, 2020
credit card debt

What do you do when you have five student loans, two car loans, a few payday loans, loans from your parents and a friend, and some medical debt? You feel overwhelmed, for sure! But what’s your best option? Are you bankrupt? Probably not. Will the debt magically disappear if you ignore it? Certainly not!

When you feel helpless about your financial situation, there are several options which will help you get your accounts back in the clear.

Credit Counseling

Credit counseling is a good choice to get a clear picture of your situation from an outside set of eyes. A credit counselor will sit down with you, your paperwork and help you figure out the best course of action. They can help you make a budget, finding areas where you could cut back on expenses that you might not have seen previously. They’ll show you all of your assets, liabilities, and debts. They’ll explain your options for getting out of debt, along with the pros and cons of each.

Before you sit down with a credit counselor, you’ll need to get organized and have all the numbers relating to your income and expenses. This includes all of your debts. Go through your bills, both paper and digital, and make a list of which bills you have. Make sure you work with a credit counselor or agency that’s reputable.

Debt Settlement

One way of dealing with your debt is to do debt settlement. With debt settlement, you deal with each debt one by one. Contacting lenders and negotiating a lower rate if you pay off the debt in full.

Let’s say you have a three-year-old hospital bill for $5000. You’ve been making the monthly $50 payments, but at this rate it’s going to be almost 8 years before it’s paid off, and that’s if they don’t charge interest. You can call up the hospital billing office and ask them to reduce the amount. You can offer them $2000 cash (make sure you have this much available) as payment in full. You must get this in writing so they can’t come back at you later for the full amount that you owed. It may take a bit of negotiating on an amount. Generally the older the debt, the less they’re willing to take. If the hospital is insisting on you paying in full, then go on to your next debt and negotiate with that creditor.

Be sure to keep written records of all communication, and send a money order for the final payment. This way they don’t have access to your checking account, and you have a paper trail of the payment.

You can take a DIY approach to this, or work with a company to help you. You can hire them to do this same thing for you. Pros to doing it on your own is that it’s free, minus your time, and you are in control of how much you settle the debt for. With an agency, you don’t have to spend the time, but you also may incur late fees and additional interest if you’re not paying on the debt while they negotiate on the settlement amount. Also, a bad agency could end up not getting your debt reduced, but still charge for their services. As always do your due diligence to find a reputable company to work with.

Student Loan Consolidation

With student loan consolidation, you streamline your payments by getting all of your loans rolled into one. All federal student loans are eligible to be consolidated into one monthly payment, rather than the multiple ones you already have. In order to calculate the interest on the consolidation loan, the lender uses a weighted average of the current interest rates and rounds the number up.

These loans are great for people who have more than two or three loans. It can get tricky budgeting for so many payments and due dates. With this loan, you have only one payment. A drawback is that private loans cannot be put into a student loan consolidation loan. You could also pay more in interest over the life of the loan. Most student loans have a standard 10-year repayment plan. When you do a student loan consolidation, the lender might draw that out to 15 or even 20 years. You’ll benefit from a low payment, but the extra five to ten years of interest will add up. Consider asking for a shorter, yet still reasonable, pay back period.

Student loan consolidation loans are only for student loans. For those who have other types of debt like credit cards and medical debt, they might not be the best option.

Which Is Better: Debt Consolidation Vs. Debt Management Plans

Debt consolidation

Opting for debt consolidation is a good choice when you’re feeling overwhelmed and unable to meet the various due dates for your bills. When you consolidate your debt, you can choose which debts you want put into the program, and then you end up with one monthly payment.

The interest rate may be a bit higher than that on some of your debts, but if you have credit card bills with interest rates in the upper teens, then a rate of 7% would be a huge reduction and worth it, even if another one of your debts was previously 5%. Also remember that with just one monthly payment, you’re far less likely to miss a payment and incur late fees and additional interest charges.

With debt consolidation the lender pays off your debts immediately ,and you repay the new lender month by month. Your credit score should not be adversely affected. In fact, it might jump up since your debts will be paid off with the original lender. You’ll be on the path to improving your credit report as well.

Debt Management Plan

A debt management plan is similar to a consolidation plan in that you end up with just one monthly payment, but you might have to include all of your debts into your plan. The way debt management works is that you make your payment to the company, and then they portion it off to your creditors. They may let some debts fall behind and become overdue, then negotiate for a lower payoff in a lump sum. It’s more management intensive on their end. A drawback for you is that your credit score will probably drop, and you won’t be able to qualify for a new auto loan, or your credit score may be too low to rent a new apartment.

Before choosing debt management plan you’ll want to understand how they handle your situation so that your credit score doesn’t drop.

Final Thoughts on Debt Consolidation

No matter which route you take to help get your debts under control and finally paid off one thing is certain: you can do this! It won’t be easy. It won’t be quick. But it will be worth it, knowing that you overcame a huge obstacle.

You might need to cut back on your spending. You might need to add on a side hustle or two. Reduce your retirement contributions for a year or two. But you can do this!

 

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