Many Americans are struggling with thousands of dollars’ worth of debt due to things like mortgages, car loans, student loans, credit cards and other types of personal debt.
Unfortunately, debt can have several negative consequences, such as lowering consumers’ credit scores or preventing them from getting approved for credit cards, auto loans, mortgages or even job postings or apartment leases. It can also take a mental and emotional toll on people.
Unfortunately, many Americans ignore their debts. It can feel easy to dismiss this problem when you convince yourself that holding debt is normal and “everyone is doing it.” The average household that has a credit card holds $8,398 in credit card debt. Credit card debt is considered consumer debt and, in many cases, retains no positive qualities like mortgage debt or student loan debt.
Regardless of what kind of debt you may hold, you must address it and make a plan to tackle it. Debt can have long-term impacts on your life. There are several options available to Americans to manage debt, including debt consolidation, debt management, debt settlement and more. Depending on your circumstances, one of these options might be the best choice for your situation.
Debt consolidation is when an individual obtains one large loan to pay off all their other loans. This option’s benefit is that you switch from having varying interest rates, due dates, creditors and end dates across several loans to one creditor and one payment. When a person has several loans, it can feel overwhelming to keep track of all the payments and have a precise end date in mind. One consolidated loan allows the borrower to focus on their single payment, easily track their progress and understand how much longer they have to go in their debt repayment.
Another benefit is that your debt consolidation loan often comes at a lower rate than some of the other loans you might hold. For example, the interest rate on credit card debt can get as high as 26%. A creditor that offers you a consolidated loan will usually give you an interest rate that’s lower than the average you held across all your other loans. Debt consolidation can be used to deal with a wide variety of debts all at once—for example, combining medical bills, student loans, auto loans and credit card debt all into one.
Lastly, debt consolidation can help cut down calls from lenders. With one payment, you’re more likely to stay on schedule and avoid dealing with collection agencies.
An important note is that debt consolidation doesn’t erase your previous loans; it merely combines and transfers them to a new lender. Often people acquire unsecured debts, such as credit cards and personal loans. When you consolidate your debt, many lenders will require it to become a secured loan. This means you’ll have to put up an asset, such as a home, to be approved for a consolidated debt loan. If you don’t have any assets, you may not be approved for a consolidated loan.
Additionally, note that some debt consolidation loans come with significant surcharges and fees. You’ll want to fully understand these fees and determine if it’s worth paying them.
Debt management is a method of getting your credit card debt under control through budgetary and financial planning. A full-fledged debt management plan will see if you can lower interest rates on your credit cards, lump various credit card payments into a single expense and outline a structured plan to pay off the debt, usually within three to five years.
This type of service is typically offered by credit counseling agencies, both nonprofit and for-profit varieties. It’s typically recommended you choose a nonprofit credit counseling agency as they’ll provide services for a small fee. Choose an agency that is accredited by the National Foundation for Credit Counseling.
The counseling agency will contact each creditor on your behalf, advise them of the debt management plan and try to negotiate a better interest rate for you. In turn, you pay the agency a monthly total, which they pass on to the appropriate lenders.
Debt management is an excellent option for someone who has unsecured debt, such as credit cards and personal loans. Unfortunately, debt management does not help with secured debt such as mortgages.
It’s also important to note that debt management is almost like an organizational service. It won’t stop your bills from coming, and it can’t promise to even achieve a lower interest rate. So, this option is only viable for someone who can handle their monthly debt payments.
Debt management can be a great tool for someone who is struggling with unsecured debt and ready to put it behind them. Unfortunately, it’s likely not an effective solution for individuals who are struggling with secured debt payments, have barely enough income to pay their bare necessities or aren’t fully ready to put consumer debt behind them.
Debt settlement is when you hire a third-party vendor to negotiate better terms on your loans. The service contacts your lenders directly, on your behalf, and tries to get you either a better interest rate or a lower total balance as a compromise. Usually, the creditor will only agree to lower the debt balance if they’re promised a lump-sum payment.
Debt settlement holds more risk than the other debt management options mentioned in this article. Typically, a debt settlement company will advise that you stop paying your debts while they’re negotiating on your behalf. They recommend this because they want your account to be marked delinquent so the creditor is more willing to negotiate. The debt settlement company also wants you to put that payment money into an account so that if a lump-sum payment is agreed upon, you’ll be ready to pay it.
Unfortunately, when you don’t make your payments for several months, you run several risks, such as:
- Your credit score will plummet.
- Your debt can be sold to a collection agency and you’ll start being contacted frequently for payment.
- Your lender may sue you.
- You incur late fees and penalties.
- The debt settlement company may not achieve anything in their negotiations, and then you’ve done significant damage for no real benefit.
Debt settlement can be the right choice for people willing to take all the above risks to have their total debt cut by a third or more. However, it’s important to note that the debt settlement company usually charges a fee that’s based on your savings. So, between the service fee and the late penalties you incur, you might not save that much money in the long run.
If you’re going to use a debt settlement service, always do your research first. There are debt settlement scams where an organization takes your money and provides no service to you. Check your company’s reviews before signing a contract, and know your rights. Legally, you don’t have to pay a debt settlement company until both the lender and the creditor have signed a new agreement.
If, in reviewing the options above, none seem quite right for managing your debt, know that there are other alternatives out there.
Credit counseling organizations employ credit counselors who specialize in finances. You can visit a credit counseling agency and get help with various financial issues, such as improving your credit score, tackling debt or learning how to budget better.
There are nonprofit and for-profit credit counseling agencies to choose from.
Most people are not aware that you can negotiate with your creditors on your own. You can contact a creditor to ask for a lower interest rate or a deadline extension or to try to work out a new payment plan. This option has several benefits. First, it’s free, as you’re doing all the work. And secondly, when you communicate with your creditor, it shows them that you’re taking your debt seriously and don’t intend to ignore it. This can help reduce the risk of them sending your debt to collections and causing significant harm to your credit report.
If you’re unable to make your minimum payments and still afford food and shelter, you may be past the point of managing your debt. Bankruptcy and foreclosure are sometimes necessary when no other alternatives work. You’ll want to come to this conclusion as quickly as possible so you can start the journey of rebuilding your credit.
Ultimately, only you will understand which option works best for managing your debt. You’ll need to consider your risk tolerance, the type of debt you have (secured versus unsecured) and your ability to afford debt payments. First, make a list of all the details of your situation. Next, list the options available out there. In comparing the two, you’ll be able to see which option matches your needs best.