While debt consolidation loans may be advertised as the easy way to clear borrowing quickly, they're not the instant solution they're made out to be. We look at alternative ways to regain control over your debts.
What is debt consolidation?
To consolidate essentially means to bring one or more things together and merge them into one. So consolidating your debts involves taking your various different debts, whether that’s credit card borrowing, outstanding loans, or an overdraft on your current account, and merging them together into one overall balance.
The idea is that by doing this you have all your debt in one place and can often arrange smaller, more manageable monthly payments – meaning you can meet your repayments more easily.
What’s the problem?
Although the idea of having various messy debts gift-wrapped into one affordable package can be extremely appealing, this ‘easy street’ to getting debt-free is littered with potential problems and pitfalls. This is because many of us, in our haste to leap on any possible solution to clear mounting debts, are taken in by adverts for companies offering to consolidate our debts for us.
These adverts often appear to offer the perfect way to get debt-free. By letting someone else take over our debts, speak to our creditors on our behalf and arrange better terms, they promise to take the pressure off you and get your debt problems sorted once and for all. However, needless to say, there are a number of issues with this quick-fix solution so it's always worth looking at other options.
What issues do I need to consider?
Unfortunately the reality of these debt consolidation companies is unlikely to match up to the fantasy. Accepting their kind offer to help you get out of debt is likely to cost you more in interest, fees, and even put the roof over your head at risk.
First of all many debt consolidation companies will charge you a fee up-front for their services, which may be unrealistically high for the work they propose to do for you. Often this will be added on to your consolidated debt.
They may also charge you for payment protection insurance on your consolidated debt, which may be expensive but may not cover you for what you need it to. If you want to cover yourself with payment protection insurance, you’ll be much better off shopping around and buying this yourself.
However, one of the biggest problems with consolidating your debts in this way is that although your monthly payments might be smaller and your debt may appear more manageable as a result, your debt will actually be extended over a much longer period of time than it would originally would have taken to pay it off – and as a result, you’ll end up paying much more in interest for years to come.
Finally, getting a debt consolidation loan will often mean turning unsecured debt (such as credit card borrowing and personal loans) into secured debt. This will involve securing the debt on your home, meaning that if you have trouble keeping up repayments your home will be put at risk. Securing debt on your home is always a huge commitment and you should steer clear of creating secured debt in this way if you can possibly help it.
What are the alternatives?
If you have several debts that are getting out of hand you may be able to save yourself a substantial amount of time and money by consolidating your debts yourself. Here are some of your options:
Lifetime balance transfer cards
One solution can be to transfer your outstanding debts onto a lifetime balance transfer card, and by doing so ‘consolidate’ your debts by having them all in one place. The great thing about lifetime balance cards is that you’ll get a low interest rate which is guaranteed to stay fixed throughout the life of balance, i.e. until you have paid it off.
With your new low interest rate and your debts merged together onto one balance you can work on paying them off more easily by setting yourself manageable monthly payments. This route doesn’t involve securing your debt and won’t involve heavy fees, although you may have to pay a small handling charge to your new card issuer.
You can also spread debt over several lifetime balance cards if your credit limit isn’t high enough on one to take it all. Just make sure you aren’t making too many credit card applications at the same time as this can affect your credit rating – spread them out within a few months of each other.
Unsecured personal loan
Another solution is to gather together all your outstanding borrowings onto one unsecured personal loan. Shop around for a loan with a competitive fixed rate and use it to pay off your various outstanding debts. Again, this will ensure they are all in one place at the same low rate, and will keep your debt unsecured rather than securing it and putting your home at risk.
Seek help
Finally, if you are having trouble with debts or need some more advice on consolidating your debts yourself, it’s always worth speaking to someone at the Citizens Advice Bureau or getting in touch with a free non-profit debt charity such as the CCCS (Consumer Credit Counselling Service).
It's likely that you'll be much better off turning to them for free advice on making your payments more manageable, negotiating with your creditors and getting your debt cleared rather than paying a debt consolidation company to do this for you.
What if I decide that a debt consolidation loan is still the way to go?
If after reviewing your options you decide that a debt consolidation loan is still the best route to go down, it’s crucial that you look carefully at the terms and conditions before deciding on a particular loan.
For example you should look at the rate of interest you would be paying on your balance on a consolidation loan. If the interest rate is more than what you’re paying now, it isn’t worth it. Also, look at how long your debt will be extended if you take out a consolidation loan – how many years will be added onto the life of your debt, and how much extra will this cost you overall? You should also take into account any fee you have to pay upon initially taking out the loan.
Make sure you are applying for a loan that will at the very least give you a lower interest rate than you are paying now. If you do go down any consolidation route, remember that you will have to be focused about paying off the debt as soon as possible and not extending that debt by borrowing further.
