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Consolidation Loans

by Gary Foreman
The Dollar Stretcher

Dear Dollar Stretcher,

What you would advise as far as getting loans to pay off credit cards? I have two of them with a minimum payment of over $100 a month. Its very hard to make that. Should I take a loan out from a bank?

I've tried doing balance transfers and I still end up having to use the card to help pay for the groceries that I can't cover with cash. It also gets used when it comes to car repairs and house emergencies. We don't use it foolishly; only as a lifesaver for necessities. I am scared of having a late mortgage payment. That is going to happen this month for the first time. It seems things are getting worse financially. I really hope you can help us out.


Based on our mail Curly is not alone. In fact, The American Bankruptcy Institute reported that during the second quarter of 2000, there were over 300,000 personal bankruptcy filings. And other sources indicate that there are over 1.5 million people using credit counseling services to help them dig out of debt. So Curly has a lot of company.

Her question really has two parts. First, could a consolidation loan relieve the monthly payment pressure. And second, would that solve her debt problem?

It's likely, but not certain, that the consolidation loan would reduce the monthly payments. Without knowing what introductory rates she's found or how long they will last, it's impossible to tell for sure.

She'll need to know that most bill consolidation loans will want to use her home as collateral. That means that her home is guaranteeing the repayment of the loan.

The consolidation loan will probably have a lower monthly payment per $1,000 borrowed. That's accomplished by spreading the repayment of the loan over a longer period of time. So Curly needs to ask herself whether she'd rather struggle to pay $100 per month for 3 years or would she prefer to pay $50 per month for 9 years. That's a very rough estimate, but does explain the available options.

Trying to continue to find credit card 'teaser rates' is not likely to work. Issuers can identify 'swappers' from their credit report. It shows accounts that were open for a short time and then closed.

When potential lenders access her credit file, they'll also find the late mortgage payment that Curly says will occur this month. Those two facts combined make her an undesirable risk for credit card companies. So sooner or later, she'll be facing a more normal credit card interest rate of about 16%.

Given what's happening to her payment record, Curly could be facing even higher rates. If she misses her minimum payment, she'll trigger late charges. Her interest rate will also go up. Rates of over 20% are not uncommon. And that will mean even larger minimums each month.

Curly will probably do best if she does try to consolidate her credit card debts. She'll need to shop for a lender that won't add a large 'origination fee' to the loan amount. She'll also want to see if the lender can demand immediate and full repayment. And, if so, under what circumstances. She doesn't want to be a few days late with a payment and have them demand repayment of the whole loan.

Consolidating the credit card debts is only half of the battle. She needs to understand how the balances were accumulated. To do that she will need to compare income to expenses. The bottom line is simple. If you spend more than you make on a regular basis, you're going to accumulate debt.

It's easy to pull out the credit card when cash is low. Millions of consumers do it every month. But Curly needs to consider what happens when she charges groceries. Suppose she can't afford to pay cash for the $100 worth of groceries in the cart today. When she uses her credit card she's agreeing to pay $115 for those same groceries over the next year or so.

That's because she'll be paying for the groceries plus the interest on the money that she's borrowed. Each time she does that, she digs the hole just a little deeper.

Curly says that they don't use the cards 'foolishly'. And that's good. But if they're spending more than their income, Curly will need to redefine 'necessities'. What exactly is a 'lifesaver'? Is that buying enough food to survive? Or does that include prepackaged convenience foods?

It's easy for non-essentials to slip in with the really important expenses. It's important to note that consolidating the debts will not solve the problem unless Curly's income is larger than her expenses each month.

That's not meant to lecture Curly. Just to warn her that most people only get to consolidate their debts once. If they go back and do it a second time, they're much more likely to be heading for bankruptcy.

Hopefully, Curly will find a consolidation loan to help her out of the current payment problem. And then she'll find a way to make sure that they make more than they spend on a regular basis.

�2000 by Gary Foreman. All rights reserved.

Gary Foreman is a former purchasing manager who currently edits The Dollar Stretcher website and newsletters.

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