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| Debt Consolidation Loan |
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| Are Debt-Consolidation Loans a Good Idea? |
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I owe money to several different credit card companies and other lenders. Lately, I've been getting a lot of offers for loans
that will consolidate my debt and supposedly help my credit rating. Is this a good idea?
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There is a certain appeal to fighting one big fire, rather than trying to put out several smaller blazes.
But before you lift the firehouse, experts warn there are serious risks involved with debt consolidation loans that should be considered.
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But credit is also a big responsibility. When you use credit improperly, it can lead to
unmanageable debt and financial crisis. The more you know about credit, how to manage it,
and the warning signs when you may need help with managing credit, the easier it is to use
the powerful tool wisely.
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Most important, if you are taking out a second mortgage or a home equity loan to pay off bills from
Visa or Sears, you are essentially swapping unsecured debt for secured debt. The danger is that you
could lose your home if you default on a secured loan, whereas you only risk a loss of credit and a
bad credit rating if you fall behind on credit card bills.
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Homeowners are consolidating debt in huge numbers without necessarily planning for family emergencies or job losses
that might force them into default. Obviously this will leave many consumers in the event of some sort of family
emergency and they could lose their homes. Another concern is that the new loan--whether tied to a home or an
unsecured signature loan--might not even have a better interest rate than the debt you are consolidating.
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It's not uncommon for those deep in debt to consolidate with a loan at a higher rate.
That's because borrowers may misunderstand the impact on their credit rating. Some people believe
creditors will think it looks better on my credit report because you only have one balance but in reality
your rating may suffer because credit scores reward consumers who keep credit lines open for long periods of time.
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Another thing to consider: The Federal Trade Commission has warned that unscrupulous lenders sometimes
fail to explain a loan's true costs--or conveniently forget to mention that you're putting up your home as collateral.
The FTC also advises consumers to stay away from companies that guarantee they'll provide loans if you pay
an advance fee. Legitimate creditors may ask for an application fee in advance, but won't guarantee approval of a loan.
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All of these issues do not mean there is never a situation where a debt consolidation loan is appropriate.
You very well may be able to lower your interest rates and monthly payments. But these loans should not
be taken without doing the appropriate homework and crunching the numbers to make sure you can make
the payments, even if disaster strikes.
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Experts also caution that consolidating debt sometimes fosters a false confidence that
credit problems are over, causing some to once again hand cards over to the retailers, restaurants and
others who got them in trouble in the first place. In other words, many people feel that once they have a
consolidation loan their troubles are over and they resort to the behavior that got them into trouble in the first place
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