Maybe you’re very rich and have never experienced debt.
It’s also possible that, like many, you have occasionally used debt acquired through loans in a perfectly responsible fashion for purposes such as buying a house or car etc. In fact, for the majority of people, debt is a legitimate way to acquire or fund things providing you keep to a few common sense guidelines.
- You have regular income.
- You borrow a sensible amount in terms of your ability to repay it.
- You borrow only from authorized regular lenders that are charging standard interest rates.
You, as a general rule, use the debt for asset acquisition rather that consumable purchasing. That means that if you buy a car and get into trouble, you can always sell it again to help pay the loan. You may take a loss but the loan purchased you an asset. Using a loan for a vacation is different because you can’t sell a vacation that you’ve already had if cash is suddenly in short supply.
There is though one other thing you’ll need to make debt manageable and possibly sometimes even a sensible use of money – and that thing is ‘good luck’!
The Role Of ‘Luck’ In Debt
The TV and newspapers love to concentrate on irresponsibly acquired and managed debt. Headlines of the “family must sell house to pay off gambling loans” are a favorite as are others such as “couple took out huge loans to live a champagne lifestyle”.
Such cases of excess and sometimes irrationally acquired debt do, of course, happen, yet far more heart-rending tales are perhaps the norm.
Many people have taken out perfectly sensible and affordable loans only to be suddenly hit by bad luck such as job losses, illness and accidents that have robbed them of their income and therefore their ability to keep their loan ‘serviced’ through repayments. Others have been forced to take out loans they could ill-afford to try and keep their business afloat.
Some students have taken out loans to finance their education and suddenly find that there’s no work out there once they’ve graduated. Yet other families on low incomes have got into debt as they struggled to keep their families fed, clothed and medically insured.
The point is that bad luck can and does play a part in much debt that becomes ‘unserviceable’ for one reason or another. If you come into this category then there’s no need to feel shame or stigma – it can happen to almost anyone if they’re hit by a stroke or two of bad luck. What’s important is to grit your teeth and deal with the problem because the reality is that debt when out-of-control won’t ‘go away’ of its own accord if you ignore it.
Dealing With Debt
The first key step on the road to recovery is, like alcoholics, to admit you have a problem that’s no longer under your control.
It may sound easy but it’s not. It’s all too easy to keep hoping for that lottery win, new job or inheritance from a long-lost relative that will solve all your troubles. When it doesn’t happen and things continue to get worse, depression can easily set in.
So, forget the fairy stories and deal with reality – you have a debt problem and it’s beyond your control. The answer – seek help!
The Role Of Your Lenders – Rescheduling
Assuming that you’re dealing with responsible professional lenders rather than loan sharks, a sensible first step is always to discuss the position with your creditors. They want their loans repaid sensibly and generally don’t like hassle or needing to go to court for recovery orders etc. You may be surprised at how flexible they may be able to be and perhaps they could re-schedule some of your debt to be paid back in smaller monthly amounts over a longer period.
Debt Consolidation
Another approach that has become increasingly fashionable over recent years is debt consolidation.
In this approach, you look at the range and spread of your debts. Let’s say you have 2 credit cards, 3-4 department store credit accounts and perhaps a couple of small bank loans.
If you’re having trouble meeting these repayments every month, you may be able to pay them all off and end up having only one repayment that is for a smaller amount in total than the total of all the individual payments. How is this possible?
Debt consolidation works by recognizing and utilizing a fundamental fact about loans and debt. Paradoxical as it may sound, it is cheaper in interest rate terms to borrow more than to borrow less.
Let’s take a completely hypothetical and unrealistically simple example.
In the above case, your total debt across all of the cards and stores is say $16,000 and the average debt to each of your 8 creditors is about $2000. Let’s say your average interest rate across them all is 12%.
Now if you have a credit card that offers say a 12-month interest-free deal for new clients on balance transfers, you may be able to transfer part or perhaps all of your debts onto your new card and get 0 interest for 12 months. At one swoop you will have hugely reduced your monthly outgoings by consolidating all your debts into one place at a lower interest rate.
You may also find that if you’re taking out a loan for $16k from a responsible lender, because the amount is higher than your smaller individual loans, then you may be able to negotiate a substantially lower rate that 12%.
So you get the loan, you pay off your debts and replace them with one monthly payment that is significantly lower than the sum of the individual debts that it’s replaced.
That, in a nutshell, is debt consolidation in principle.
Debt Consolidation – Do Your Sums
This technique isn’t always the answer though and some caution may be required.
Remember that 0% interest on balance transfers won’t last forever. Once it’s expired, you may find that the new ‘normal’ rate is far higher than you were paying on your old card and related debts.
It’s also true that many lenders don’t like debt consolidation. They may feel that if you’ve let it get out of control once you could do so again – so finding a loan may not be easy.
Finally, remember than some lenders offer ‘debt consolidation’ loans to the desperate and gloss over what their interest rates are in the longer term. Don’t get trapped by them. Do your sums carefully to ensure your ‘new’ position will, in reality, be better than your old one.
If you’re in any doubt at all or are just not comfortable with figures then seeking some free professional or accounting advice before committing yourself may be a very good idea.
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