If you’re struggling with credit card debt, you’re far from alone. According to the latest statistics from financial website NerdWallet, in 2015, an estimated 46.7% of U.S. households carried a balance on their credit cards, averaging a hefty $15,863.
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American household debt is actually down about $2,200 from the same quarter in 2010, but not necessarily because consumers are paying down their debts. Instead, banks are writing off more debt as uncollectible — yet another sign the national economy continues to eat away at consumers’ earning power.
Credit card debt, and high interest rates that often come with it, can seem overwhelming. It’s little wonder some consumers turn to debt-consolidation loans. These loans take all of your debts and consolidate them into one larger loan, with a private debt-consolidation company often negotiating a reduction in the overall debt you owe.
Although it sounds like an ideal solution, debt consolidation also comes with serious consequences; and, depending on your financial situation, it might not be the best choice for you.
Third Party Debt Consolidation
Debt consolidation comes with its own risks. Many private debt-consolidation companies charge exorbitant fees and interest rates. Once the low teaser rate on your new card or loan has expired, any outstanding debt takes on a rate that’s significantly higher — which means consumers might end up spending more money to pay off their consolidated debt than they would have if they had simply stuck with their original loans.
In that type of scenario, consumers will see their three-digit credit scores fall. This can be a problem; lenders of all types rely heavily on those scores to determine who gets loans and at what interest rates. Consumers with weak credit scores will have to pay higher rates to borrow money, if they can even convince lenders and banks to loan to them at all.
Debt consolidation alone doesn’t help consumers change the negative spending patterns that left them with high credit card debt. Consumers who don’t take steps to become smarter financially might end up with huge credit card bills again, even after paying the high fees and interest rates that so often come with debt consolidation.
There is one possible benefit to debt consolidation, though. Aggressive debt-consolidation firms might be able to negotiate away a sizable amount of consumers’ debt. It’s also easier for consumers to make one monthly payment to reduce their debt than it is to pay several creditors each month.
It makes financial sense for consumers to explore all other options before turning to debt consolidation companies. Better options for dealing with high credit card debt might include transferring the debt onto a single low-interest-rate card. This would give you time to pay off your debts without having to deal with sky-high interest rates. Be careful, as those low interest rates rarely last forever. Make sure to pay off your debt before the teaser rate adjusts to a much-higher interest rate.
You might also consider taking out a home equity loan, which tends to come with attractive interest rates, to pay off your credit card balances. There is one big risk, however — if you miss your payments, you could lose your home. Many homeowners today might find this type of loan out of their grasp, thanks to the falling real estate values that have sucked away much of the equity in their homes.
You could also take out a loan from a family member to pay off your credit card debt. This has obvious advantages: Mom, Dad or your siblings probably won’t charge you exorbitant interest. The danger, of course, is that if you can’t pay the loan back, you might seriously damage your familial relationships.
The Bottom Line
Deciding to take out a debt-consolidation loan is far from an easy decision. The risks of overpaying and the potential damage to your credit score should give you pause, so be sure to explore all your options. If you must work with a debt-consolidation company, make sure to do your research. Investigate the company with your local chapter of the Better Business Bureau, check online for any complaints against the company, and get in writing exactly how much you’ll be paying in interest and fees to pay off your credit card debt.