A Fool’s Guide to Loan and Debt Consolidation

A Fool’s Guide to Loan and Debt Consolidation

You’re fortunate indeed if you have yet to be personally impacted by tightening credit markets and the personal finance balancing act that they can bring. While lenders continue to raise the bar for approval on credit cards, personal loans, and mortgages it may feel like your options for borrowing are shrinking each day. With access to credit harder to come by, the stakes are higher for protecting your existing credit options. The macro-economic climate may be challenging, but take a moment to review your options and determine just how deep in debt you actually are. For many fools like you, simply changing spending habits can open up a world of opportunities to with even greater leverage.

Step 1: Start with the big picture.

Collect every single bill you receive each month. If you aren’t capable of putting your hands on a comprehensive stack that represents the money you owe, start a file and dedicate yourself to keeping and tracking everything you receive in the next month.

Once you have it all, sort your bills into 2 categories. The first is for the necessities of life. You have to keep paying the rent/mortgage, the electric bill and the gas bill — and you’ll continue to use your water and sewer. Go ahead and add items like phone, cable, Internet and other monthly subscription services, too. (Though if you are seriously debt-ridden, there are likely a lot of answers to your problems there.) And put your car and insurance payments on the list. Eventually, you are going to want to manage your variable monthly expenses, like food, entertainment and gasoline for your car, but for now we are focusing on the essentials.

Your second stack includes anything you’ve purchased on a payment plan. Include any credit cards that carry a balance from month to month. If the bill has 2 amounts – one that says “minimum payment” and one that says “to pay in full” – it belongs in this stack. Include any outstanding personal loans, school loans, bank loans, etc. If the bill involves the words “principal” and “interest,” it goes here.

Now make yourself a spreadsheet of all of the debts in this second stack with the following details:

  • total amount due
  • minimum monthly payment
  • next payment due date
  • final payment due date (if there is one)
  • amount of interest accruing on outstanding debt
  • date that interest rate will change (if there is one)
  • what the new interest rate will be

Step 2: Pay off the smallest debts first.

By this point, you have already committed to a lifestyle that means you’re no longer buying crap and digging your hole deeper. This means that you may, in fact, have a little spare change around to throw at some of these debts. You may not, as well, and that’s OK. You’re on the way to fixing this mess.

If the creditors are already knocking at your door and you’ve long since given up trying to meet your minimum payments, go ahead and do the research to find a professional debt consolidation service. These services aren’t necessarily a cure-all, however, and the do-it-yourself route might be more empowering, if you can manage it.

Step 3: Pinch pennies.

There are still great opportunities for saving if you know where to look.  Look online at some of the top deal sites. The internet is chock-full of great offers for retail products and other consumer services. Start using online promo codes. Even on big ticket items like notebooks and desktop computers from Dell, Sony and HP.

Step 4: Prioritize what’s left.

If you have tallied your minimum payments and can see from your budget that you can cover them, your next step is to arrange your debts in the order you want to pay them off. There are a couple of approaches to clearing out a debt load.

The most fiscally responsible way to do this is to arrange the debts in order of interest rate. Make all your monthly payments and then make regular additional payments toward the debt with the highest rate. (You will have to figure how much you can afford to pay based on what’s left in your budget). When that debt is clear, start on the one with the next-highest interest rate and pay it down, and so on.

Psychologically, however, it’s better for some people to prioritize their debts by the amount owed. If you start with the $100 in debt accruing 10% interest, for instance, you will be able to pay it off more quickly than the $1,000 accruing 8% interest. In effect, you are reducing your total number of debts rather than reducing the total amount you will be paying over time.

Only you can decide which of these methods is the best way for you to tackle debt. Remember that this process could take years, depending on how heavy your debt load is and what your income opportunities are.

Step 5: Consolidate yourself.

In some cases, it might be worth it to consolidate your own loans. Offers from credit card companies peddling low-interest loans (often in the form of checks you write to yourself) can sometimes be preferable to the rates you’re paying on your multiple smaller loans. Before making this decision, however, make sure you understand the fees involved in accepting such deals from your credit card company; the period of time during which you will qualify for the low interest rate; and what that rate will change to when this time is up.

You should also check with your bank for loan offers and interest rates. If you’re an established customer with a reasonably good credit rating, your bank may be able to beat a credit card company’s offer by supplying you with a loan at a decent rate.

Other things to consider:

  • One monthly payment for a single consolidated debt might be easier, as far as bookkeeping, even if it means paying a slightly higher minimum payment.
  • Paying off multiple, smaller debts will likely boost your credit rating, since you’ll get points for paying off the debt, even though the total amount is simply transferred from 1 location to another.
  • Many credit card companies are willing to work with you to negotiate lower interest rates. You just have to ask.

In the end, getting out of debt is not so much about finding the right person or company to manage your finances for you. It’s about developing the attitude and spending habits necessary to make your own ends meet.