When debt threatens your financial stability, it's important to take the time to consider your options. Credit counseling allows you to work with a professional who helps people untangle themselves from their financial burdens everyday. Debt consolidation may be one option your counselor recommends, or you may apply for consolidation on your own. Whatever route you choose, it's important to fully understand the pros and cons before applying.
Credit Counseling
When you begin to feel overwhelmed by your debt, visiting a reputable nonprofit credit counselor may be helpful in directing you on a better financial path. In credit counseling, you will create a realistic budget and take a hard look at your spending habits to diagnose how you got into such deep debt. Your counselor will provide you with options to reach financial freedom. Such options may include debt consolidation, debt settlement, debt management plans or bankruptcy, depending on your level of debt and the severity of your financial situation. You may also find that you have the ability to work out your debt solo by strategizing a plan to pay off your debt.
Debt Consolidation Loans
Debt consolidation loans are one method you may use to begin eliminating your debt. Other debt elimination methods, such as settlement and management plans, require that you've already defaulted on payments. Generally, creditors won't agree to such extreme measures unless you seem to be headed for bankruptcy. However, with consolidation loans you need to have fairly good credit to qualify. Consolidation loans are loans that cover all your current balances. For example, if you have five credit cards with a total of $10,000 debt, a consolidation loan would wipe out your balances and you would only make one monthly payment with one interest rate to the loan. You do not need to work with a credit counselor to use a debt consolidation loan; you may apply through a bank or credit union on your own.
Warnings
Every debt payment option has its benefits and drawbacks. Pursuing debt settlement with a credit counselor may clear your debt for 20 to 75 percent of the amount you owe. However, to qualify for settlement, you must have already defaulted on your payments, damaging your credit score. Debt management plans don't damage your credit score directly, but future lenders may view one as a sign you cannot responsibly manage your finances, which may make it difficult to borrow. The primary benefit to debt consolidation is convenience -- you make one monthly payment with one interest rate, simplifying the bill payment process. However, it's vital to keep in mind that you're taking on more debt in an attempt to get out of debt. About 70 percent of those who use consolidation end up with the same or even more debt within a two years, said Massachusetts credit counselor Chris Viale, in the Bankrate.com article "Debt Consolidation: Cure or Continued Credit Problems?" Be prepared to pay off your debt for good if you decide to use a consolidation loan.
Considerations
If you have trouble controlling your spending, debt consolidation might be dangerous for your financial situation. Instead, you may consider a self-help plan to pay down your debt. Financial expert Dave Ramsey suggests using the "debt snowball plan," where you pay off your smallest debt first to encourage you to get rid of debt completely. You then pay off the next smallest debt, then the next, until your debt is gone. If you can afford it, you might use the information on your credit card statement, which provides information on how much you need to pay each month to eliminate your debt within three years. Or, you may choose to pay off the card with the highest interest rate first, to avoid spending extra money by allowing a balance to sit over a long period of time. These solutions aren't one-size-fits-all; it's important to consider which will work best for you and your financial psychology.
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