If you’re finding you have a lot of loan and credit card bills piling up and chewing into your household cash flow, you may be a candidate for debt consolidation.
Here’s everything you need to know about debt consolidation. Jeff Schwartz, executive director of Consolidated Credit Counseling Services of Canada, offers some insight about how you can tell if it’s the right option for you.
What is debt consolidation?
Schwartz explains that debt consolidation is essentially taking on a new loan to combine and pay off multiple smaller loans and debts. These could include credit cards, a car loan, a line of credit – almost anything you have personal debt on. Instead of making multiple payments every month, you make one payment toward the larger loan. If you have a lot of different debts, debt consolidation can make it logistically easier to manage them.
What are the advantages of debt consolidation?
In addition to making it simpler to manage your loans, here are some advantages of debt consolidation, as outlined in the easyfinancial guide here.
Reducing multiple payments into one simple payment:
Can ease the risk of late payments
Can help reduce interest rates overall, enabling you to pay down debt faster
Can help improve your credit score as improved cash flow and lower payments should reduce risk of missed payments
How can you consolidate debt?
There are several different ways to consolidate debt, and what is best for you depends on your financial situation.
1. You can take out a consolidation loan, from easyfinancial for example. Schwartz advises that for this to be effective, you should make sure that the monthly loan payment is less than what you pay on all your other debts combined. If you already have a good credit score that indicates your track record for making payments on time, you could qualify for lower interest rates, which could mean that this method is the best choice for you.
According to the easyfinancial guide, if you have a bad credit score and need to rely on a personal loan from a family member or friend, or a personal installment loan, at least ensure the amount of interest you’re paying on the consolidated loan is less than the combined interest payments you were paying on your other debts.
2. Another way of consolidating debt is to take out a home equity line of credit or secured loan. What you’re doing here, says Schwartz, is “taking unsecured debt and exchanging it for secured.” Secured debt means you are using an asset – the equity in your home – to guarantee to the lender your intention to repay. Since you are putting assets on the line, like your home, only take this route if you have addressed the behaviours that got you into debt. An unstable job history or bad credit score means getting approved for a home equity line of credit or secured loan may require a co-signer with better credit and a higher income.
3. You can sign up for a debt repayment program or credit counselling service to deal with your creditors for you. The service may be able to negotiate a better interest rate or increased payments to knock down the debt faster. This method will have a small negative impact on your credit score, but while you’re in the program, you will be prevented from taking on more debt.
Three tips for changing your behaviour
No matter what you choose, Schwartz advises dealing with the behaviours that got you into debt. “Changing behaviours is a (challenging) horrific challenge even at the best of times,” he says, but he has three tips that will help.
1. Pay yourself first, meaning always put a portion of your paycheque toward savings before anything else. You can start small, but Schwartz suggests working toward saving about three to six months living expenses as a cushion for emergencies. It may take a while, but any cushion is better than none.
2. “Say no to new debt,” says Schwartz. Figure out a way to live within your means, such as cutting expenses, getting more shifts at work or finding a higher-paying job. If you have trouble managing credit cards, cut them up until you learn financial discipline.
3. Create a plan to tackle debt. Schwartz advises being specific and breaking down goals into smaller steps. Try to cut back on your expenses without sacrificing everything fun – a sense of “missing out” will make it harder to stick to your budget.
Schwartz also believes that you don’t have to do it alone. Paying down debt isn’t easy, but you can enlist a friend to help or speak to a credit counselling agency for financial assistance. Whether you choose debt consolidation or not, getting help will make it easier to stick to your payment plan.