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Debt Consolidation: The Easy Way Out

MoneyWise | May 9, 2022

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Show Notes

What may seem like “the easy way out” of debt can definitely lead to new problems, and get you in worse trouble than when you started. We’ll talk abou the dangers of debt consolidation today on MoneyWise.

  • We’re not a fan of debt consolidation for two reasons:

    • 1) It’s dangerous
    • 2) There’s a much better option. Explained shortly.
  • THE DANGER OF DEBT CONSOLIDATION

    • Let’s talk about the danger first. The tantalizing idea behind debt consolidation is that you’ll reduce your overall monthly payment by refinancing several debts into one big one.
    • But in order to make that one payment smaller, you may have to sign up for a longer term loan. That means you’ll probably end up paying more in interest in the long run than you would by paying off the debts individually.
    • You might think that having a lower monthly payment will give you a chance to pay more on the principal each month to get rid of the combined debt faster, and that’s certainly true.
    • The problem is that all too often, that’s not what happens. Having that extra cash on hand leads to “lifestyle creep,” and folks just just end up continuing to pay the minimum amount each month. That’s how the debt gets stretched out over several years, which costs them more in interest.
    • The next problem with debt consolidation isn’t necessarily a “danger,” but it’s something to think about. Consolidating your debts could temporarily lower your credit score in two ways:

      • First, whenever you apply for a new credit card (to transfer balances to it) or you apply for a home equity loan to consolidate, that gets reported to the credit bureaus as a “hard inquiry,” and it’ll lower your FICO score.
      • Second, if you get a new card or loan and you close out the old accounts, it will lower the average age of your credit, which also lowers your score. But again, if you’re struggling to pay off the debts you already have, let’s not worry about a low credit score hampering your ability to get new credit and even more into debt.
    • The greatest danger of all with debt consolidation is that it’s really just “slapping on a band-aid” when you really need a tourniquet. It doesn’t fix the underlying problem, which is living beyond your means.
    • Granted, sometimes you can be overwhelmed with a financial emergency like medical bills, but that’s usually not the case when someone consolidates debt. More often it’s because they’re simply overspending and their lifestyle has gotten out of control.
    • And that’s how debt consolidation becomes really dangerous. Instead of reining in your lifestyle, you continue to overspend. And if you don’t close the accounts you’ve paid off, you can now continue to charge stuff on them.
    • Then you find yourself having to make payments on those accounts plus the consolidation loan you took out. It seemed like a good idea at the time, but you’ve only managed to double your problem.
  • Okay, so what’s the solution that doesn’t breed new problems? Well, obviously you have to attack the underlying issue, not just the symptom. You’ve got to reduce your spending, and there are two great sources of help for that.

    • The first is to sign up with one of our coaches at MoneyWise.org. When you do, a coach will work with you to prepare a written budget that will enable you to meet your monthly obligations without using credit cards. There’s no charge for this service except the minimal cost of a workbook. Our coaches are all volunteers who love to help God’s people get control of their finances. That takes care of the problem of overspending.
    • Now, to address your outstanding debts, you can get help from our friends at Christian Credit Counselors.
    • They’ll put you on a debt management plan, not debt consolidation. And they can help you pay off your debts up to 80% faster than going it alone. They have arrangements already in place with most major credit card companies and lenders to lower your interest rates.
    • You only have to make one monthly payment, and you solve your debt problem without taking out a new loan. Check them out at ChristianCreditCounselors.org.

On this program, Rob also answers listener questions:

  • When does it make sense to combine IRAs?
  • How do you revise a trust to include additional family members?
  • What is the difference between a certified financial planner and a financial analyst or advisor?
  • Is it a good idea to sell a whole life insurance policy?
  • Is a 401k a better investment vehicle than a Roth IRA?

RESOURCES MENTIONED

Remember, you can call in to ask your questions most days at (800) 525-7000 or email them to Questions@MoneyWise.org. Also, visit our website at MoneyWise.org where you can connect with a MoneyWise Coach, join the MoneyWise Community, and even download the free MoneyWise app.

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