How to Recognize and Avoid Common Debt Consolidation Loan Mistakes That Can Trip You Up

According to the Center for Microeconomic Data, Federal Reserve Bank of New York, Americans were carrying more than $1 trillion (https://www.newyorkfed.org) worth of revolving-debt balances in 2018. As much as $830 billion were credit card balances at the end of 2017 translating to $4,789 per average cardholder. When credit card dues threaten to swallow you up due to the high rates of interest and you begin to ward off an increasing stream of collection agents at your doorstep, you need to do something to get on top of your liabilities immediately or face eventual bankruptcy. While consolidation is among the most effective ways of getting out of the credit card dues trap, you need to approach it very carefully and not end up making the same mistakes that most people often do that prevent them from achieving their goals of a debt-free and worry-free life.

Consolidation Explained

Conceptually, consolidation is extremely simple; you take out a single loan for the aggregate of all the debts that you owe. With the new loan, you can pay off all your debts and devote yourself to paying one single loan off. With a good credit score, you can make a lot of saving on the interest and also have the opportunity of making your monthly payment more affordable by extending the period of the loan. Because now you have only one loan to monitor, you also will be able to make the payments on time and save on the hefty late payment charges that are a big drain on your resources over time.

Taking on a loan for consolidating debts is merely one step in becoming debt-free. Unless you take care to avoid the many common pitfalls, you could actually end up in a situation that’s far worse. Some of the common consolidation pitfalls that you need to take care to avoid:

Not Understanding the Reasons That Got You into a Debt Trap

While consolidating debts can be very effective in getting you out of a financial mess, it does not address the real reasons of why you actually ended up in a distressing situation in the first place. You may be feeling very relieved that by consolidating, you have got on top of your dues but the truth is that if you continue with the same habits, you are going to land up in the same mess as before or even worse. When you rack up debts that need consolidation, it does not happen overnight but only due to a lifestyle that is clearly uncontrolled.

It is important that you take the time out to analyze your spending habits by examining your credit card statements and other expenses and figuring out where all your money went. It is only when you recognize your vulnerabilities that you can guard yourself against temptation. Also, at this point in time, it is important to take stock of your income so that you can figure out how to allocate your money; make a monthly budget and stick to it with firm resolve.

Not Evaluating All Available Options

Consolidation of debts can be done in quite a few ways and each method has its own pros and cons so not examining all your options can be doing yourself an injustice. For example, if you have multiple credit cards that you have maxed out, you can look out for a new card that offers you a balance transfer facility at zero percent rate of interest for a reasonably long period like 18-24 months, you can save a lot on the interest outgo. Since this kind of offer is generally available only to those with very good credit, you may have to try getting a loan from a bank, credit union or even a private lender. If you have a home in which, you have substantial equity, you can also borrow against it though it is dangerous as you could lose your home in case your default on the repayment of the loan. You can also consider enrolling in a management program that can reduce your debts after negotiating with your creditors and consolidate your reduced debts, though this route will negatively impact your credit score. It can be very useful to consult a non-profit credit counselor to get help in examining practical options for managing your debts as well as for making budgets that can help you to stay debt-free.

Not Restricting Use of Credit

Perhaps the main reason why consolidation fails to make people debt-free is that even after taking out a consolidation loan to repay existing debts, they continue to have a lifestyle that encourages free spending on the back of the very same credit cards that they freed up. The best way of tackling this situation is to lock up all your credit cards with the exception of only one reserved for real emergencies. Closing the card accounts is not recommended since this negatively impacts your credit score as the amount of available credit gets restricted. However, if you are unsure about your resolve to not use your cards, it may be the best way despite the temporary hit on the credit score. If you think you can handle credit cards responsibly, you can always take out a new one in the future.

Conclusion

As you very well know getting piling up debts is a very easy task but getting rid of them can take a long time even with loads of self-discipline. A consolidation loan even with the easiest of terms can usually take years of determined effort before it can be wound down and you are free of liability, especially when you are making only the minimum payments. If during this period, you keep on adding to your dues, it can prove to be an impossible task. Determination and disciple are the two planks on which your plan to become debt-free have to be based. Not only do you have to increase your surplus cash by making significant lifestyle changes but also you need to make a budget and pay off the dues as per a defined plan for your consolidation to succeed.