Every time I get an offer from some feckless freelance writer trying to “give” me a “free” article plugging her customer, yet another debt consolidation service, I’m quietly amused. Well…no. I’m amazed: obviously some PF bloggers are publishing articles on debt consolidation that don’t give the whole story.
Debt consolidators negotiate with your creditors so that you make a single monthly payment to the consolidator, which then disburses small amounts and skims off a nice finance charge for itself. This may be useful for those who truly do not have the self-discipline to pay their bills and to snowflake them down with every small windfall that comes along. But for most people, it’s an expensive way to go. The FDIC notes that even though a consolidator may lower your monthly payments, the resulting plan will take longer to pay off your debts, and that the use of debt counseling is likely to show up on your credit report.
Some of these outfits are very smarmy. The Consumerist reports, for example, on the case of a “debt relief law firm” that collected $450 a month from a mark’s checking account, supposedly to pay down $23,000 worth of credit card debt. Not until the victim applied to rent an apartment did he discover the “debt relief” was actually theft, and that nary a dime had been paid toward his cards.
Some debt consolidators or alleged law firms charge excessive fees, often collected up front. These lead consumers even deeper into debt, failing to relieve their problems and even landing them in bankruptcy court. Although most debt consolidation companies claim to be nonprofits, they make a great deal of money at customers’ expense.
A number of years ago, while I was teaching at the Great Desert University’s westside campus and wishing I could earn more for less work, I applied for a job at a so-called nonprofit debt advising company. Starting pay for a job that required me to write lessons and conduct training in budgeting and personal finance was about $90,000—a phenomenal amount in a right-to-work state like Arizona. Various bonuses and perks were also promised. Companies don’t pay low-level executives that kind of money unless they’re making plenty of it.
Debt consolidation companies profit from their customers’ woes in a number of ways. One is simply to deduct a percentage of the payments passed along to creditors. Another is to engross one or two entire payments for “administrative costs,” dealing a blow to the borrower’s credit report when no part of the payment ever reaches the creditors.
You don’t need a third party to settle your bills. Whatever these outfits do, you can do for yourself, and then some—at no extra cost.
• First, call your creditors and try to negotiate a better interest rate or payment plan. They don’t want you to default, because that costs them money. Many will work with you to pay down your debt.
If you’re behind on your payments because of a documented personal disaster, such as a health crisis or loss of a job, lenders will sometimes negotiate a reduced balance. This is far preferable for them than having you declare bankruptcy and pay them nothing.
• Next, always pay more than the minimum due. A minimum payment applies only about one or two percent toward the balance; your goal is to pay down the principal.
Most car loans and mortgages allow you to pay extra specifically toward principal. You may have to go in to the bank in person to accomplish this, but it’s worth the trip. The more of your money that goes toward the principal, the faster you pay down the debt.
• Establish a budget and stick to it. This budget should be designed to keep you from running up more debt. Stop charging stuff. Easier said than done, but that’s why you make a plan and stay with it.
• Create a sidestream income and pay all of the net proceeds toward the debt. If this means delivering pizzas after work in the evenings and on weekends, so be it. A side job is one of the most effective tools for paying down debt and building savings.
• Pay every extra penny that comes your way toward the debt. Got a rebate? Tax refund? A few bucks from a yard sale? Pay it straight into the debt, no matter how tiny it is. Every little bit helps. It’s surprising how quickly you can whittle down debt this way.
• Decide which works best for you psychologically: to attack the largest debt first or to go after the one with the largest interest rate. From a practical point of view, it’s usually best to get rid of high-interest debt first, since that costs you the most money over the long term. Some people, however, feel most oppressed by larger debts, even if the interest is low relative to a smaller debt.
By “larger,” I don’t mean your mortgage. This should be the last debt you decide to pay off. Get rid of revolving debt first. The small tax advantage given to mortgage holders defrays the actual cost of interest on these loans, and so the most urgent debt is represented by credit card and automobile loans.
• Pay off debts in an organized, systematic way. Establish a monthly amount you can disburse toward existing debts. Devote the largest part of it toward the account you decide to liquidate first, while paying something more than the minimum toward other debts. When that account is paid off, move your largest payment to the next account, and so on until, one after another, all the debts are settled.
None of it is rocket science. You don’t have to fork over any of your money to someone else to do these things. You can do them for yourself—for free!
If you still feel the need to talk with someone about your debt problems, the National Foundation for Credit Counseling can refer you to free or low-cost counseling and offers a number of consumer tools on its website.
