What Is Debt Consolidation
Debt consolidation is the act of using a single, large loan to pay off multiple smaller debts. This eliminates the need to make individual payments to several lenders. Instead, youll now make one loan payment each month to pay down your consolidation loan.
To better understand this, lets consider this example. A man has two credit cards and one personal loan. One credit card has a $1,750 balance, a $90 minimum monthly payment, and a 22% interest rate. The other credit card has a $1,600 balance, an $80 minimum monthly payment, and an 18% interest rate. The personal loan has a $1,200 balance, a $75 monthly payment, and a 15% interest rate.
If he only makes the minimum monthly payment, those three debts total $245 across three monthly bills. At the current interest rates, the first credit card would take 25 months to pay off with $433 in finance charges. The second credit card would take 24 months to pay off with $316 in interest charges. The personal loan would take 18 months to pay off with $147 in interest charges.
In all, he would pay $994 in finance charges to satisfy the three debts.
If he instead used a consolidation loan to combine the $4,550 in debt at 15% interest, he could pay the combined debt off in 24 months with a $220 monthly payment and $744 in finance charges. Thats a savings of $25 each month and a savings of $250 in interest over the life of the loan.
S You Can Take To Pay Off Your Debt Fast
If you want to pay off debt fast, its important to get motivated. Write down why you want to get out of debt. Maybe youd like to save for a down payment on a house or put more money in your 401.
Or maybe you hope to pay for part of your childs college education or travel more often. Hang whatever you wrote down on your kitchen fridge or bathroom mirror so that you have a visual reminder of your why to keep you motivated to reach your goal.
Keep Spending In Check
Now that you have a plan to get out of debt, its time to focus on the other part of the equation: spending.
When it comes to paying off debt, the first step is to create a budget and prioritize your payment plan.
Now that you are trying to pay down debt, it should become a top priority, Woroch says. Because that debt may keep you from achieving your other life goals, like time with family or career changes.
The first step is to cut back on spending if you can and figure out how to save additional money for payments.
When youre first getting started with budgeting, a simple spreadsheet can help make the transition go smoothly. The Federal Trade Commission provides a with six simple spending categories: housing, food, transportation, health, personal and family, finance and other.
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Alternative Methods Of Managing Mounting Debt
Sometimes, individual borrowers may struggle in situations where they simply cannot repay their mounting debts. A lack of financial means, serious illness, and a poor mindset are some of the reasons this occurs.
In the U.S., borrowers have alternative methods that can salvage their situations. They should carefully weigh these options and assess in detail whether they should use them or not, as many of these methods may potentially leave borrowers worse off than before. Higher costs, lower credit scores, and additional debt are some of the possible consequences. For these reasons, some personal financial advisors suggest avoiding the options listed below at any cost.
Debt Management
Debt management first involves consulting with a credit counselor from a credit counseling agency. The U.S. Department of Justice contains a list of approved credit counseling agencies by state.
Suppose they deem a debt management plan viable. In that case, the credit counselor will extend an offer to the debtor. The agency will take responsibility for all their debts every month and pay each of the creditors individually. In turn, the agency requires the debtor to make one monthly payment to the credit counseling agency and possibly other fees. Usually, credit counselors will also require debtors to avoid opening new lines of credit and close their credit cards to avoid accruing new debt.
Debt Settlement
Bankruptcy
S To Paying Off Debt: Developing A Plan
Paying off a debt in collections may not sound hard, and for the most part, it isn’t if you have the money. But you’ll want to take the following steps to ensure everything goes smoothly.
Research your debt and debt collector
Its one thing if you get a letter in the mail and you know youre dealing with a legitimate debt and company. With phone calls, emails and texts that you may be receiving from debt collectors or scammers posing as debt collectors, be smart. Make sure you actually owe the debt before rushing to pay it.
Create a budget
If this isnt a case of the debt being $40 but something more like $4,000, and you cant possibly pay it all off at once, youre going to need to come up with a dollar amount that you can pay every month. If its a reputable bill collector, it will probably accept something reasonable as long as you dont suggest paying $1.34 every month for the next 40 years.
Ask about a settlement
You can probably settle the debt. Maybe you have $4,000 but are reluctant to pay it, but you feel like you could pay $2,000. Ask the debt collector if that would work. Odds are, the debt collector will push you to pay more like $3,000. The point is, if youre able to pay a large amount, you may be able to kill off the debt for less than you owe.
Keep track of your payments
Check your credit report
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How Many Points Does A Collection Drop Your Credit Score
If your debt goes to collections, your credit score will take a hit. How much is hard to say. It depends on how healthy your credit score was to begin with. You could see a pretty serious drop of, say, 40 points if you have an excellent credit score, and maybe only a four-point drop if this is just another debt in collections and your credit score has been dwelling in the basement for years.
Does Debt Collection Affect You Legally
If you dont respond to a debt collector within a certain period of time, they can sue you in court. This period of time varies by state, so check your state regulations to find out how long an agency has to sue you. If the debt collector wins, they may receive the right to garnish your wages. Garnishing wages means they can contact your employer and ask that a portion of your paycheck be diverted to them.
They may also put a lien on any property you own, like your home. In this case, you would be unable to sell the home while the lien is in effect, and your creditor might also be able to foreclose on your home with a court judgment.
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How Much Debt Does The Government Owe
If you subtract the debt the government owes to itself, we are left with roughly $14.6 trillion in debt which is a debt to GDP ratio of about 74%. If we think of the national debt as our own credit card debt, then the GDP is kind of like the money we have coming in from our jobs, our investments, and our side hustles.
U.S. debt was paid down in 1947, 1948 and 1951 by Harry Truman. President Dwight D. Eisenhower managed to reduce government debt in 1956 and 1957. Spending cuts and tax increases play a role in both efforts.
To submit a payment, all you have to do is submit two of the three: account number, the exact balance owed, or SSN. If you owe money to National Credit Systems Inc, you may be able to negotiate a pay-for-delete agreement.
Fight Fatigue By Celebrating Small Wins
Whether youve paid off your first $1,000 of debt or have made five consistent payments, its important to celebrate your debt repayment victories with little luxuries.
Be sure to set small mini-goals within your larger debt repayment goals, and once you reach a goal, give yourself permission to celebrate the achievement, Woroch says. This can be as simple and inexpensive as a morning latte.
We recommend incorporating these small celebrations into your repayment plan. As you hit your bigger goals, how will you celebrate?
Plan your milestone celebrations ahead of time and write them down in your plan. That way youll constantly be working toward a fun, tangible and positive goal. Then, instead of simply looking forward to paying down that next $500, you can also get excited about treating yourself to a night out with friends after you reach a milestone, or getting a milkshake at your favorite restaurant.
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How Long Do Debt Collectors Have To Collect A Debt
Unpaid debts are considered time-barred, which means that if a debt collector doesnt collect a debt you owe by a certain number of years , you cant be sued over the debt.Ethically, of course, you still owe the debt, and a debt collector can, pretty much until the end of time, still send letters and make phone calls, entreating you to pay up.
Verify That The Debt Is Yours
Dont make payments until you verify that the debt is accurate and is actually owed by you. Make sure that the stated amount is correct and that the collector is legitimate. You should ask for a validation notice from the collector in question and check them out with the Better Business Bureau or your state attorneys office.
Youll also want to look into your states debt statute of limitations, which puts a time limit on how long debts can be actively collected upon. In some states, debts can be reactivated if you make partial payments or contact the collector. Double check that the debt hasnt been erased through bankruptcy or other methods.
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How Does Debt Collection Affect Your Credit Score
Payment history is a major factor in your credit score, so if a collection appears on your report, your score may drop significantly. While an overall good credit score can outweigh a couple of late payments, its important to continue paying all bills on time to avoid the risk.
If the collection is recent or remains unpaid, you might have an especially hard time getting approved for credit cards and loans. The FICO score, for example, considers whether a collection appears on your credit report and when it was reported. Generally, the more recent the collection, the more impact it will have on your FICO score.
Collection accounts stay on your credit report for up to seven years. Typically, as the account gets older and you continue to add positive information to your credit report, the effect on your credit decreases.
Can A Personal Loan Build Credit
A personal loan will help to build your credit score as long as you make your payments on time every month.
Your payment history makes up 35% of your credit score. The calculation does not consider how big the payment is only that its on time.
Late payments appear on your credit history as 30 days late, 60 days late, or 90 or more days late. The longer you go without making a payment, the worse it is for your credit score.
A lender will not report your late payment until youre at least 30 days late. Making your payment before its 30 days late will still likely cost you a late payment fee, but it should not impact your credit score.
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Create A Livable But Bare
Making a budget is one of the best ways to get a handle on your finances, and a livable but bare-bones budget is a powerful tool than can help you pay off your debt fast. To create one, follow these steps:
Figure out where youve spent money in the past: Use your bank and credit card statements from the last few months to understand where your money typically goes. To do this, create categories such as food, restaurants, and mortgage and jot down how much youve spent in each category.
Get rid of non-essential expenses: Once youve categorized your spending, its time to cut non-essential expenses like morning Starbucks runs or your cable subscription from your budget. Non-essential expenses are anything you can live without.
List your new bare-bones expenses and add them up: Now, youll create a bare-bones budget based on the expenses you cant cut such as your mortgage or rent payments, utilities, and groceries. This new bare-bones budget should leave you with more money to throw at your debt each month.
Keep in mind that sticking to a bare-bones budget is a temporary situation. Once you pay off your debt, you can add non-essentials back into your budget.
Make At Least The Minimum Payment
Make at least the minimum payment if you cant pay off your balance in full. The minimum payment is the minimum amount you have to pay each month on your credit card balance.
Your minimum payment will be either:
- a flat dollar amount, usually $10, plus any interest and fees
- the higher of a dollar amount, typically $10, or a percentage of your outstanding balance, typically 3%
Your credit agreement will tell you which method your credit card issuer will use to calculate your minimum payment.
Paying only the minimum amount you owe means:
- it will take you longer to pay off your credit card balance
- you’ll pay more interest
Increasing your monthly payment by even a small amount will shorten the time it will take you to pay off your balance by a lot.
Table 1: Compare the cost and time to pay off your credit card when you make only the minimum payment and when you increase your monthly payment| Payment scenarios |
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Avoid Debt Collection Scams
It makes sense. When youre in debt, anything that looks like a solution to getting out of debt sounds good. But unless your plan includes getting all the facts in order about your debt and obliterating the debt, youre headed for trouble.
You may be in debt, but youre not desperate. Sleazy debt collectors are a dime a dozen and so are their ugly counterparts: credit report clean up companies and companies that promise to settle your debts for you. Dont ever pay someone to provide these services. Theyre scams designed to squeeze even more money out of hurting people.
If you want to know the best next step for your situation, book a free call with a Financial Coach and get advice we stand behind.
About the author
Ramsey Solutions
Ramsey Solutions has been committed to helping people regain control of their money, build wealth, grow their leadership skills, and enhance their lives through personal development since 1992. Millions of people have used our financial advice through 22 books published by Ramsey Press, as well as two syndicated radio shows and 10 podcasts, which have over 17 million weekly listeners.Learn More.
What To Do After You Make Your Last Payment
When you finish your payment plan or complete the lump sum, ask the collection agency for a letter of completion from a company signatory. Then check your credit reports to make sure that the account has been accurately updated but note that changes may not be reflected for 30 days. Even after everything is updated correctly, keep your records in a safe place in case any issues arise later.
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See If You Can Lower Your Interest Rates
A few of your credit cards probably have terrifyingly high interest rates, interest rates that could slow you down on your way to being debt-free. If you have enough available credit on a lower-interest account, consider transferring the balance from a higher-interest account into it.
There are other ways you can cut back on the amount of interest you pay. Perhaps you can get a consolidation loan. The thought of taking out another loan might make you shudder, but a consolidation loan will lump all or most of your monthly payments together. The result will be that you have to pay less interest, and you will have fewer bills cluttering your budget space.
Ask your creditors for lower interest rates. After a review of your account, they may say yes.
If you have a decent credit score, you may want to refinance some of your installment loans, like your mortgage or car loan.
How To Pay Off Debt In Collections
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If youve missed payments on your debt for a significant period of time, typically 180 days, it may be sent to a collections agency. The agency might try a number of tactics to recover the debt, from aggressive phone calls to court orders.
You have a number of options for paying debt in collections, from settling the debt to working out a payment plan. By comparing these options, you can choose the best route for your financial situation.
Heres what to do:
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