In Too Deep

Americans have nearly $800 billion in credit card debt. Is debt consolidation the answer to your financial woes?

(www.consolidatedcredit.org) and the National Foundation for Credit Counseling (www.nfcc.org).

Debt consolidation loans, considered the only true form of debt consolidation, are offered by a bank or through a balance transfer offered by a credit card company. The benefits are significantly lower interest rates and better payment terms. Also, the debt remains unsecured, meaning that you don’t have to put up any collateral, such as your home.

However, there is a downside. “The interest trade-off may be too high, creditors may have unreasonable discretion to increase rates if you have one late payment or are over the limit, and there’s always the temptation to borrow unused credit,” says Perlmutter. “If you play by their rules, this type of debt consolidation can be beneficial; maintain perfect credit, pay bills on time monthly, don’t go over the limit, and don’t use credit cards you’ve paid off.”

Equity financing, on the other hand, pays off your debts using a loan against the value of your home. This method offers lower monthly payments because of the lower interest rate and longer payout terms. If your current home is worth $200,000, for example, and you have $50,000 in equity, you can do one of two things — refinance or take out a second mortgage. It is only a good idea to refinance if the new interest rate will be substantially lower than your current one. You can pay off all of your credit card debt and other bills and have the added bonus of saving more money since mortgages are tax-deductible. But there is a significant drawback. You are trading unsecured debt for secured debt. Credit card companies can do little more than report your payment history to
credit reporting agencies, resulting in a negative credit history. However, the mortgage company can — and will — take your home.

So is it a good idea to pull cash out of a home to pay off debt? “Yes, if you save money. Just because you get a write-off, it doesn’t mean you save money. A 0% credit card rate is far better than a 12% home equity loan. You must do the math,” says Scott Bilker, founder of DebtSmart.com and author of Credit Card and Debt Management (Press One Pub; $19.95). “To find the comparable rate for a non-tax break offer, simply subtract your tax bracket from one and multiply it by the rate [of the second mortgage].”

UNDERSTANDING WHY YOU COULDN’T SWIM IN THE FIRST PLACE
No debt consolidation strategy will succeed until you deal with the causes of your debt. “The first stage of problem debt is denial. If the debt stems from fundamental underlying issues, like living beyond your means, then debt consolidation can be the worst choice,” cautions Steve Rhode, president and co-founder of Myvesta.org. “I have seen many people consolidate their debt only to wind up in trouble again. You can wind up in deeper trouble if the underlying issues are not addressed.”

If you find yourself in this situation, consider seeking counseling from a certified therapist or psychologist who specializes in

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