Cash Tip 3 from Cam: Debt Consolidation Doesn’t Solve Most Problems

February 5, 2007

I’ve consolidated debt once. At the end of my six months grace no interest period on my student loans, I consolidated them into one loan, to simplify my payments, and to fix the interest rate.

This is one of the only situations I would recommend consolidating debt. I’d recommend consolidating if you can group several loans that have a variable or high interest rate into one with a lower fixed-interest rate, but aside from that, I would just stick it out and pay the debt as is.

More often than not, debt consolidation is bad, not because it won’t make life easier or because it lowers the payment, but because it doesn’t help you fix the problem of over-spending. Consolidating to get a lower payment will more than likely end up in you paying the lender more money than less. What consolidating will do is basically reset or give you a new loan term on the balance you have (so what you would have paid off 5-10 years from now you are being given 10-15 years to pay).

Lenders like this because they make money on you having a loan with them. It’s called interest. It gets calculated regularly, and it’s based on the amount of money you still owe. By saying that you will pay them back over an extra five years, you are basically telling them that you will keep paying their pay-checks for that extra time, and that adds up to paying the lender hundreds, or thousands of extra dollars extra. When you do the math, is it worth it, 9+ times out of 10 it isn’t.

Consolidating debt only treats the consequences of your overspending (that you have maxed out credit cards and have no extra money after your income has gone to make all the minimum payments). Consolidating could lower the payments and simplify where you send your money each month, but what it doesn’t do is help you curb your spending habits. It may free up a little portion of your income, but it won’t give you the tools or will-power to beat the debt monster you have created.

In order to win your battle with debt, you need to curb your spending habits and make getting out of debt a priority. That is the problem that debt consolidation won’t fix.

(In the next two tips, I’ll give some practical advice for beginning to kill your debt, but whether or not you can wait for what I have to say, you can get the complete picture from the book “The Total Money Makeover” by Dave Ramsey. It is in the top three practical must reads on my list, and it is definitely worth owning.)


One comment

  1. Great information. Thanks

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