Avoid Personal Loans for Debt Consolidation

Consolidating debt can help debt-ridden borrowers climb out from under a serious problem. But using a personal loan for debt consolidation may not be the answer.

In an early episode of the television show The Incredible Hulk, Dr. David Banner finds himself sinking fast in a pool of quicksand. Debt-ridden consumers can probably relate to Dr. Banner's plight as he goes under-only they don't have the option of transforming into the Hulk to pull themselves out.

Debt consolidation in theory

The only way to get out of debt, short of bankruptcy, is to pay off those balances. It's far easier said than done, however. Many consumers see their debt balances rising each month, as late fees and higher interest costs take their toll. Minimum payments start to creep up, restricting cash flow and making it harder to cover everyday expenses without continuing to charge.

In theory, debt consolidation provides consumers with a structured and affordable pay-off plan. With one fixed payment each month, the principal balance is slowly whittled away until it disappears entirely. While that's the big picture, the reality of debt consolidation can be quite different.

Debt consolidation in practice

Using a personal loan to consolidate debt can be problematic because the interest rates are typically very high. A good credit borrower might get a personal loan for 15 percent-but a poor one may have to pay 20 percent or more. Once you add in loan origination fees, the personal debt consolidation loan may end up being more expensive than credit cards. You also run the risk of being sold some expensive extra services, like insurance. Prepaid credit insurance can add thousands to your debt balance and to your total interest costs. You also have to consider the effect that the new loan might have on your credit score; opening a new credit account and closing old ones can actually push your score down. Even so, some borrowers make this leap, unaware that they're slipping further into debt quicksand.

Tips for consolidating debt

Finding a low-rate loan that can be paid off faster than your credit cards is crucial to your debt consolidation success. If you can secure an affordable personal loan with low upfront fees, it might succeed. Unfortunately, those programs are rare, particularly when your credit is already suffering.

Avoiding consolidation, and toughing it out with your credit cards, may not be as bad as it sounds. Try calling up your lenders and asking for a break on the interest rate. Then, start paying as much cash as you can afford on your highest rate account, while making minimum payments on everything else. You'll also have to make a workable budget so you don't keep charging.

With or without debt consolidation, overcoming a debt problem is a long-term journey. But you don't need Hulk-like strength to get started: personal resolve and determination will suffice.

By:Catherine Brock