Debt Consolidation - What You Need to Know

If you find yourself struggling with debt, making multiple monthly repayments to a variety of different lenders with different interest rates, one of the most attractive options may be debt consolidation.  Used correctly, debt consolidation can be a great way to manage your debt problems and help you become debt free; however debt consolidation may not be the best option for everyone and in many cases can lead people into a worsening debt situation.

What is Debt Consolidation?

Debt consolidation or refinancing is a way of taking multiple debts and consolidating them into a single loan, subject to a single interest rate generally with a single monthly repayment.  Instead of having to manage repayments to multiple banks and financial institutions a debt consolidation loan allows you to deal with a single lender. This makes managing your debt situation significantly easier and often you can wind up paying less each month than you were paying before.

What debts can be consolidated?

Generally a debt consolidation loan allows you to consolidate all of your unsecured personal loans, credit cards and store cards. However some mortgage refinancing allows you to consolidate your unsecured debts in with your mortgage.

What are the benefits of debt consolidation?

Debt consolidation allows you to combine all of your unsecured debts into a single more manageable loan with one monthly repayment. Most debt consolidation loans should offer you a lower interest rate than you are receiving on your credit cards and personal loans. This reduced rate could ultimately save you thousands in interest over the course of the loan.

Additionally you will be able to deal with a single bank or financial institution rather than multiple different creditors. This should make your debts easier to manage and save you money on fees and late payments.

Am I eligible for debt consolidation?

Eligibility for a debt consolidation loan is at the discretion of the bank or lender. Generally speaking you are unlikely to be approved for a loan if you have a bad credit record, a history of late payments, are in default on any other loan repayments or are unemployed or not in regular employment. So if your debt situation has gotten out of control you are unlikely to be eligible for a debt consolidation loan.

What are the drawbacks of debt consolidation?

Some people who take out debt consolidation loans eventually find themselves in a worse position than they were in before.  Why is this the case? Because debt consolidation doesn’t help change the behaviour that got them into debt trouble to begin with. After taking out a debt consolidation loan, many people who find their credit card balances cleared wind up maxing out their credit cards and slipping back into the same bad spending habits as before. This can lead to a situation in which you not only have to repay the same amount of debt as before but also have to repay the debt consolidation loan on top of it.

Without discipline and a change in your spending and saving habits, debt consolidation is not going to provide a long term solution to your problems and you may eventually find yourself slipping back into debt. Ultimately debt consolidation should be used in conjunction with better financial habits such as budgeting and saving if it is going to be truly effective and help the borrower to become debt free.

What are the alternatives to debt consolidation?

If you’ve been rejected for a debt consolidation loan or simply think debt consolidation is not for you, there are alternatives to consider.

If your debt problems haven’t yet gotten completely out of hand and your repayments remain manageable, the best option is always budgeting and smarter management of your finances. Sit down with a pen and paper or using your computer and work out your total monthly expenses including your mortgage repayments, credit card bills, groceries, school fees etc. and balance them against your total household income. By doing this you should be able to identify areas of unnecessary expenditure and be able to better manage your spending habits. Any savings you make from budgeting and phasing out unnecessary expenses should be redirected toward paying off your debts.

However if you have been rejected for a debt consolidation loan and your debts have become unmanageable there are alternatives for you to consider. One increasingly more common option is entering into a debt agreement with your creditors. A debt agreement is a legally binding arrangement between you and your creditors based upon what you can reasonably afford to pay. Similar to debt consolidation they allow you to make a single ongoing repayment to your debt agreement administrator. However unlike debt consolidation all of your debts aren’t paid out upfront but instead your creditors receive dividend payments based upon your debt agreement contributions. Once you have successfully completed the agreement you are released from your debts. It is only possible to enter into a debt agreement if you have become insolvent, in other words you cannot afford to pay your debts as and when they fall due.

Finally in more extreme cases declaringbankruptcy might be the only option available to you. Bankruptcy should only be considered as a last resort and in situations in which you are unable to reach an agreement with your creditors. Bankruptcy has serious consequences and as such you should seek further financial advice before considering this option.

Fox Symes is the largest provider of debt solutions to individuals and businesses in Australia. Fox Symes helps over 100,000 Australians each year resolve their debt and take financial control.