Should You Consolidate Your Debt?
With five credit cards, student loans, a car loan, and a few other debts, I feel overwhelmed. I’m up to date with everything and have decent credit, but just keeping track of all payments is a problem and constantly stresses me out. Most of my debt is already on automatic payment, but I would like to consolidate my debt to make things more manageable. Is it a good idea?
Borrowing money is quite easy. Paying it off is the hardest part. And yes, dealing with multiple payment amounts and repayment schedules is stressful. It is one of the hidden “costs” of borrowing that affects millions of Americans.
Debt consolidation could help you manage by streamlining payments and simplifying accounting. It may reduce your stress, but it won’t reduce your debt. You are always on the spot for the money you borrow. That’s not to say that consolidation isn’t a good idea. But before you do, there are few things to consider.
Try these pre-consolidation moves
Dealing with current debt is one thing, making sure you don’t incur more debt is just as important. So first of all, take a step back and see how your expenses compare to your income. Are you spending too much? If so, try to re-prioritize and make changes to your budget before you consolidate.
If it’s just a matter of monthly management, there are some things you can do on your own. For example, try to contact your creditors. You may be able to negotiate lower interest rates or change payment due dates, which will help you feel more in control.
Talk to a credit counseling could help you put your debt in perspective and find management techniques.
If you choose to consolidate, look beyond the monthly payment
Consolidation consists of taking out a single loan to repay several loans. On the plus side, this means a one-time payment at a possibly lower interest rate with a corresponding lower monthly obligation. This can give you more wiggle room in the short term, but it can also extend your repayment date, thus increasing the interest you pay over the life of the loan. So look at the big picture.
The terms of a consolidation loan are important and depend on several factors, including your credit score, whether the debt is secured, the amount you are borrowing, and current interest rates. Then there are things like balance transfer fees, closing costs, and total interest paid. These can in fact add to your debt.
Simplifying your finances and freeing up money each month can be a good compromise. On the flip side, the full cost over time might not be worth it. Make sure to shop around for the best deal possible.
Weigh your consolidation options carefully
There are several ways to consolidate all your debts into one. But like anything else, there are pros and cons to each and the choice for you depends on your schedule and how much risk you are willing to take.
- Balance Transfer Credit Card—The simplest approach to credit card debt is to transfer multiple balances onto a single low-interest card. The advantage is that you only have one payment; the downside is that there is often a balance transfer fee and possibly an annual fee.
- Unsecured personal loan—Offered by banks, credit unions and online lenders, no collateral is required for this type of loan. Your creditworthiness is essential to obtain the best conditions. Interest rates are generally fixed and repayment terms can be flexible. But beware of assembly costs and prepayment penalties.
- 401 (k) loan– As there is no credit check and interest rates are generally low, a 401 (k) loan may make sense in certain circumstances. But it is not a risk and cost free option. First, you borrow for your retirement. Additionally, you may incur taxes and penalties if you fail to make timely payments. Finally, if you quit your job, you may need to repay the loan in full within a very short period of time.
- Home equity line of credit (HELOC) –Low interest rates can make this an attractive option for homeowners. However, the interest on HELOC used to pay off debt is no longer tax deductible. Additionally, refinancing unsecured debt like credit card balances with a secured home equity loan comes with inherent risks. If you are late to make the required payments, you could lose your home.
Beware of debt settlement scams
People in debt are the prime target of scammers, so beware of any debt relief and credit repair offers, especially those that offer debt cancellation or settlement. These programs are different from loan consolidation and are often scams. A big tip is if you are asked for money in advance.
Typically, a debt settlement company recommends that you stop debt payments and put money up front into a special account, which will be used to attempt to negotiate with your creditors. The catch is, even if you think that entering into a deal with a debt settlement company will get you by if you miss a payment, interest, fees, and penalties can. again be added to the main. In addition, you run the risk of creditors hiring Debt recovery agencies.
On top of that, missed payments will show up as a negative transaction on your credit report, which will make it more difficult to obtain credit in the future. Even if a creditor agrees to accept less than the total amount owed, it will still impact your credit score.
Be careful with student loans
Consolidate student loans raises a whole different set of issues. And having multiple student loans, both federal and private, makes consolidation more complex. Pay special attention here.
For example, federal direct consolidation loans are only available for federal student loans. They won’t necessarily reduce your interest, but can make payments easier with fixed rates and longer repayment periods.
On the other hand, private consolidation loans may offer lower interest rates (fixed or adjustable), but do not have the same protections like federal loans, such as income-based refunds, abstention and forgiveness. The loan may also include additional fees and costs. And once you refinance federal loans to a private loan, you can’t turn them into a federal student loan to get the benefits of the federal program.
Manage both short and long term
As you focus on manage your debt, also examine your overall financial situation: your budget, your goals and your plans to achieve them. Loan consolidation might help you manage your debt better now, but also make sure you think about the long term, which hopefully includes controlling debt in the future.
Have a personal finance question? Write to us at [email protected]. Carrie can’t answer questions directly, but your topic may be considered for a future article. For questions relating to the Schwab account and general inquiries, contact Schwab.
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