Consider Debt Consolidation but understand the benefits and pitfalls
With the lockdown period having significant ramifications on personal finances, many consumers are asking about available options to assist in better managing their money. One option is debt consolidation, but consumers need to be aware of the implications.
According to Tessa Verwoerdt, HOD: Money Solutions at Bayport Financial Services, debt consolidation is a way of taking multiple creditor balances and combining them into a new loan with only one monthly repayment.
“This means that you can avoid having to pay several instalments with their associated costs, and instead you pay back only one instalment on one loan. You do however need to consider what the total cost of this loan over the entire period will be.”
She unpacks what consolidation means:
If you consolidate your debts, you will not be listed at a credit bureau however the loan itself will reflect on your report. It means one monthly payment rather than many, which spares you the effort of servicing many debts, and it’s easier to keep track of payments. It should require a lower monthly payment than all your previous instalments added together. It should also improve your credit profile over time because you will not have as many debts or accounts reflected, however it may mean you need to pay the loan off over a longer period than that of your original loans.
“The idea behind consolidation is to reduce the number of payments you have, making it easier to manage your debt repayments. Debt consolidation generally will not include your secured loans like your car or bond loans. It will apply to unsecured debt like a credit card, personal bank loans, lines of credit, and other debts like medical bills, especially when they have mounted up.”
Apart from paying only one loan as opposed to multiple creditor repayments, debt consolidation will help you to increase your monthly cash flow especially if you include your current high-balance high-interest accounts into the consolidation. The loan should have a lower monthly repayment compared to your existing creditor repayments.
Verwoerdt cautions that it’s important to check the interest rate and cost of the new loan to ensure that it is lower than what you were previously paying. Additionally, check the term of the new loan to make sure you do not end up paying more in interest over the life of the loan.
“During difficult economic times, and especially as thousands of consumers will be forced to tighten their belts even further as a result of the lockdown, debt consolidation can be a solution for those who have trouble keeping up with their monthly payments.”
She says on arrears debt, you can negotiate settlement discounts that will help you to reduce your overall debt exposure before consolidation. This will reduce the term or instalments of the consolidation loan significantly and will help you save on additional arrears interest and costs that increase your debt balances, making it more difficult to pay off a debt or keep up with payments.
However, debt consolidation will not work unless you stop using your credit card, and other accounts that you include in the consolidation. The best course is to close the accounts and cut up the credit cards. Furthermore, it is important to be disciplined with your financial behaviour and resist the temptation to borrow again if you are unable to afford the debt. Remember that creditors will see this as an opportunity to market to you again after your debt has been consolidated or your loans have been settled with them.
In time, well-managed debt consolidation can also help to improve your credit score which will enable you to obtain better credit terms in the future. In this regard, it is important for you to obtain paid up letters or statements from creditors and debt handed over to debt collection agencies, which have been settled via the new consolidation loan to ensure that the debt is paid up and no additional costs continue to mount up.
Before agreeing to a debt consolidation arrangement, it’s important to seek debt consolidation advice from a trusted financial professional. Bayport offers consumer consolidation product guidance and loans.
Verwoerdt concludes by encouraging consumers to seek out help from registered and trusted financial institutions when faced with challenges and ensure they always check their credit health reports to know where they stand.