Many people who seek help in reducing their debt ask about consolidating their credit card balances under one monthly payment. Granted, if you have numerous cards and other obligations, there’s an anxiety caused by keeping track of all of the due dates, and not feeling like you’re making any progress. A single, albeit larger payment can help simplify your life, and ease your stress over which payment is due when.
Before you act, however, ask yourself a few questions:
What is my end goal?
However, money management is about behavior and mindset, and that is the first thing you need to explore. What can often happen is people who have maxed out credit cards see a little “daylight” in their expenses, and then add more debt. One step forward, two steps back.
If the goal is simply to pay less a month so you have more money, that can be a red flag. Every dollar needs to have a job, and if the extra dollars in this case aren’t going toward paying off the debt, stop. Debt consolidation is not a get out of jail free card, it’s meant to be used as a plan for methodical, directed debt repayment, without taking on more debt in the meantime.
Think of people who win the lottery, and have no plan of how to manage their windfall. Most end up right back where they started (or worse) and it’s because their mindset never changed.
Financial coaches can be a real pain in this case. We will tell clients to cut up their cards and close their accounts whether or not they’re consolidating, which can be very traumatic. If these debts have been a way of life for a long time, consolidation needs to mark the start of a new way of thinking about budgeting for purchases that doesn’t include swiping (unless it’s a debit card). Some loans may actually even require that you close these accounts, which is a smart idea anyway.
If your end goal is not full repayment in as short a period as possible, it’s time to pause and think of what you are looking to achieve. You could end up in a bigger hole than you started digging out from.
What are the interest rates?
If you have a credit score that’s lower than 610, understand that you may not get a great interest rate on the consolidation loan than you’d like. With many credit cards carrying hefty 20% plus interest rates, you need to comparison shop, do a little math to see what your total costs will be if you simply pay the new minimum. If it’s getting you farther, faster, great. If not, be prepared to pay more than the minimum to get you there more quickly. (And in any case, we counsel people to always aim to pay more than the minimum to attack the debt.)
Many of the loan terms will also lengthen the time it takes to pay off, and early payment may incur a penalty. Seek out loans that don’t penalize you for early payoff, and again, we want the goal to be repayment in as short of a period possible.
Forbes Advisor also cautions, “Some lenders offer fee-free personal loans that don’t require borrowers to pay origination fees, late payment fees, prepayment penalties or other common loan costs. However, this is more the exception than the rule, so it’s important to ask about fees when shopping for the best loan terms. This is especially important if you’re trying to save money by consolidating debt because fees can cut into your savings over the life of the loan. Likewise, if a lender charges an origination fee, find out whether it’s built into the APR or taken out of the loan amount prior to funding, as this may impact the loan amount you need to request.”
Do I have a plan to succeed?
Success in anything is always precedent by a strategy before you begin. This is no different. Do you have someone that will keep you accountable? Do you have a deadline to complete this goal? Do you have a plan to address the other expenses in your budget to not include a credit card?
Even more importantly, have you envisioned what your life looks like after you’ve paid this off? If the minimum monthly payment is $500, and you’re committed to exceed that in order to speed up your progress toward the final payment, what will having these additional dollars in your account feel like? And where will these new dollars now go? If you have a home loan, how much more quickly will sinking those dollars into your mortgage pay off your house?
This visioning shouldn’t be taken lightly, as it provides you with the momentum and motivation to stick it out when you’re in the middle of the process, which can be boring. Discipline and focus can seem boring at times, but keeping the endgame in mind will allow you to keep pushing forward, whether or not you decide to consolidate your debt.
Speaking of your home… please do not consider home equity lines of credit (HELOCs), which use the equity in your home to give you….more credit. This is too enticing for people who have become used to running up balances on their credit cards, especially if the line of credit exceeds what you need to “pay off” your other obligations. These also devalue the equity you’ve been earning in your home, and any balance will certainly be deducted when you sell your house.
However you proceed, make sure this isn’t a shell game… the money you owe will still be the money you owe, no matter who’s getting the monthly payment for it. We preach gazelle intensity in repaying debt just because it can be a pitfall to linger too long in the process. Stay on offense, stay intense, and you’ll reach the finish line, perhaps sooner than you imagined.