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How Debt Consolidation Can Go Wrong
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The Debt Consolidation Process Can Go Wrong
Written by Liz Weston, CFP(r) Senior Writer | Personal Finance economics, credit scores, Liz Weston, CFP(r) is a personal financial columnist co-host of the "Smart money" podcast, award-winning journalist and creator of 5 novels on financial matters, among them the bestseller "Your credit score." Liz has been featured on a variety of national television and radio programs, including the "Today" talk show "NBC Nightly News," the "Dr. Phil" show and "All Things Considered." Her columns are published in the media by The Associated Press and appear in hundreds of media outlets every week. Prior to NerdWallet, she was a writer columns for MSN, Reuters, AARP The Magazine and the Los Angeles Times. She lives located in Los Angeles with a husband as well as a daughter, and a golden retriever that is co-dependent.
Updated July 20th, 2017 at 2:07 PM PDT.
Written by Des Toups Lead Assigning Editor | Student loans, repaying college debt, and paying tuition for colleges Des Toups is a former director of assigning editors who worked on both the auto loans and auto loans teams. He has years of experience in personal finance journalism, exploring everything from auto insurance to bankruptcy, couponing and side hustles.
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Daniel Montville knew a debt consolidation loan wouldn't solve his financial problems however, the hospice worker believed it could give him some breathing space. He'd already declared bankruptcy once in 2005 and was determined not to make the same mistake again.
Montville was able to take out the loan in 2015, but within a year, he was been in debt on the loan as well as his payday loans he got to assist his daughter, who was a single mom with four children. The payday lenders all but eliminated his bank account each time a paycheck landed and left him with only a small amount of money to pay for the essentials. His daughter was fired from her job, and the $5,000 tax refund she had promised to him in exchange for repayment was instead devoted to supporting her kids.
"That's the moment I woke up and realized that this was a no-win situation," says Montville, 49, of Parma, Ohio. Montville is currently paying back his creditors under a 5-year Chapter 13 bankruptcy repayment plan.
can feel like the answer to a borrower's need however it does not always solve the issue of overspending that led to the debt in the first place. Within a short time, borrowers often find themselves being buried in debt.
"It's simple to fix it," says Danielle Garcia an expert in credit counseling at American Financial Solutions in Bremerton, Washington. "They don't address the root cause of the issue."
From the skillet
The five-year $17,000 loan Montville obtained at his credit union, for example, paid off 10 high-rate credit card debts, cut the rate of interest on the debt from double digits to around 8% and offered a fixed monthly payment of $375, less than the amount he was currently paying in total on the cards.
What the loan didn't do but change Montville's habits of spending. The repayment of credit card debt only gave him room to make charges.
Some of the debt came from unexpected expenses such as repair work to your car. But Montville estimates that 60% of it of the debt was a result of "foolish expenses."
"I wanted to own a television. I was in need of clothes. I'd like to go to a cinema," Montville says. When he purchased a brand new laptop, he noticed only the small monthly payment of $35 but not the 25% interest rate he was being charged. When his daughter was in financial difficulties, he resorted to payday loans because his cards were at their maximum.
Now that he is unable to longer make loans -- his credit card accounts are shut and he'll require the permission of the bankruptcy court in order to buy a new car-- Montville finally is thinking about what he really wants to purchase versus what he'd like to buy. He contemplates whether he could go without a purchase, or delay it. If he truly wants something, he saves for it.
"My feeling now is, cash only," Montville says. "Once I make a payment in cash, nobody will be able to steal it."
Consolidation is a method but not an answer
Montville's attorney, Blake Brewer, says many of his clients don't have any idea how their expenses stack up against their earnings. They think that their forthcoming tax rebate or stretch of overtime will allow them to get ahead, but don't realize they're consistently spending more than they earn.
"These people are shocked when I sit down with them and take out a calculator," Brewer says.
A few of his clients have consolidated their debts using a 401(k) loan or a home equity line of credit. They pride themselves on saving money by lowering their interest rates, however they're not aware of the fact that they're spending assets -- home equity and retirement accounts -- that generally would be safe against creditors when they file bankruptcy the court.
The people who seek debt consolidation might end up with a debt settlement agreements that promise to convince lenders to pay less than what they're owed. The process of settling debts typically results in a major hit to credit scores, however success isn't guaranteed and some businesses simply go under with the hundreds of dollars they cost.
-- through a credit union or a reputable online lender It doesn't have to be a disaster when the borrowers:
Stop using credit cards
Commit to an annual budget
Save for emergencies so they don't have to take out loans to pay for unexpected expenses
The most important thing is that their debt must have the ability to be repaid within the three- to five-year duration of the standard debt consolidation loan. If it will take more than five years to pay off the debt on their own, the borrowers must consult with a .
"By the time most people seek help they're already too far," says Garcia, the credit counselor.
Liz Weston is a certified financial planner and columnist at NerdWallet the personal finance website. She is also the author of "Your Credit Score." Email: Twitter: @lizweston.
This article was written by NerdWallet and first printed in The Associated Press.
About the author: Liz Weston is a columnist for NerdWallet. She is certified as a financial planner and author of five money books which include "Your credit score."
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