Get on Top of Your Debt with a Consolidation Plan
Step 1: Figure out how much debt you are carrying.
List out all your current debts, not including housing or your mortgage. In addition to your credit cards, be sure to also list your car loan (the balance, not just the monthly payment) and any retail store credit (like furniture or appliances). For instance:
Credit card: $15,000
Retail store credit: $5,000
Car loan: $20,000
Total non-housing debt: $40,000
Next, add up the monthly payments you make on these accounts. For your credit cards, take the average of your last six months’ payments.
Credit card: $750
Retail store credit: $500
Car loan: $350
Total monthly payments: $1,100
Now you’ll have a more complete picture of your debt. In this example, you would need $40,000 to pay off your debt, and your current monthly payments are $1,100. When thinking about consolidating you’ll want your monthly payments to be lower than $1,100. Or, if you are not struggling to make these payments, you could keep the same monthly payment, but with a lower interest rate. This saves you money in the long term because you’ll pay off the debt faster.
Step 2: Find the best consolidation loan.
If you are a homeowner and have equity in your home, a home equity loan or line of credit, or a cash-out refinance could be a smart option. Let’s say you have $80,000 in equity (you own that much of your home). Using the above example, if you took out a home equity loan or line of credit for $40,000 at 7.5 percent interest for five years you would pay $800 per month. Plus, the interest may be tax deductible, though you should always check with your tax advisor to be sure.
If you don’t own a home, or do but don’t have much equity built up yet, or if you just don’t want to put your house on the line, a personal loan may be your best bet for debt consolidation. The interest rates on a personal loan tend to be higher than a home equity loan or a refinance, but usually lower than credit card interest. Since these loans are unsecured, they rely even more heavily on credit score, so make sure you do your homework and compare interest rates. Debt consolidation makes the most sense if the interest of the new loan is lower than what you are currently paying.
Step 3: Stop spending.
Obviously you still have to eat and clothe yourself and your family. Household expenses will continue. But take a long hard look at the non-essentials and put them off, or budget carefully for them. Debt consolidation doesn’t help you if continue to run up more debt.
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