Your Three Worst Debt Consolidation Moves

If you're up to your eyeballs, the fantasy of debt consolidation can suck you right in. Watch out for the slippery
side of consolidation loans, balance transfers and other 'easy fixes.'

The phrase "debt consolidation" has always had a magical ring to me.

As if somehow, someone would have the power to mush my debt into one neat little package, which by some
incredible financial alchemy would also then shrink the debt itself -- and I'd only owe a hundred bucks or so.

I know I'm not the only idiot who's had this fantasy, because an entire industry has sprung up to support it:
The Debt Consolidation Industry and Covert Sting Operation. Every day, I get at least one piece of regular mail
offering me low-interest balance-transfer deals for credit-card debt, or arm-twisting e-mail from unknown
credit organizations that scream things like:

"DEBT RELIEF IS JUST A CLICK AWAY!"

"CUT YOUR MINIMUM MONTHLY PAYMENTS BY 50% OR MORE!"

"SLASH YOUR INTEREST RATES DOWN TO ZERO!"
These promises are incredibly alluring to anyone who is caught in the quicksand of having too much
consumer debt, and who will believe anything, do anything -- click her ruby slippers (bought on sale for just
$400!) three times -- to make it go away. But before you start skipping down some financial yellow brick road
to see the Wizard of Debt Consolidation, remember this: Watch out for those flying monkeys.

Three bad debt-consolidation moves:

1) The Hard-Money Loan
"The biggest myth about debt-consolidation loans is that they're easy to get," says Scott Kays, president of
Kays Financial Advisory Corp. and author of "Achieving Your Financial Potential." If you really need a loan, it's
probably because you've already missed a few payments and your credit history has more dings in it than a
'74 Ford Pinto.

And that's the problem. Kays says that if you are a credit risk, the consolidator may entice you with promises
of an easy-does-it loan, and end up charging you higher interest rates than you're paying now -- as high as
21% or 22%. "Your monthly payment may be lower" with one of these loans, "but you'll end up paying more,"
says Kays.

2) Debt Consolidators Who Promise to Take Care of Everything
This is the fairy godmother fantasy. This Nice Big Debt Consolidation company comes along and swears
they'll make your life soooo much easier. They'll negotiate lower interest rates, reduce your monthly payments
-- and all you have to do is make "one EZ payment."

In reality, many debt consolidators build in a fee as part of the monthly payment you make to them. It's usually
about 10% of the payment (i.e. about $40 on a $400 monthly payment). They pass along your payments to the
creditor -- some debit directly from your checking account -- and get back a 10% to 15% slice that the relieved
creditor is only too happy to rebate to the consolidator.

Is it worth paying someone else to do what you can do on your own, i.e. negotiate lower interest rates and
stretch out your repayment schedule and pay off the highest-interest debts first?

To desperate ears, this might sound like an ideal solution, especially when you talk to these people and they
scare the bejeezus out of you. I interviewed two, Cambridge Credit and Counseling Services and Integrated
Credit Solutions. Each offered similar services, and I don't recommend either of them. The senior credit
counselor I spoke to at Integrated told me, in grave tones, that it would take me 379 months -- or 32 years --
to pay off my debt. With their services, however, they would "save me 27 years," and I could pay off my debt in
just 53 months, or about 4 1/2 years.

That’s funny, because when I plugged my debt into the MSN Money Debt Consolidator -- a less biased
source, since they ain't getting no fee from me -- they said I could pay off my debt in 41 months, providing I
make slightly higher minimum payments to each card: a total of just $60 extra per card.

Here's another risk with consolidators you should know about: they have been known, in some cases, to
make late payments or even miss payments, thus worsening your plight (and your credit record).

After I got off the phone with Integrated, I had to ask myself: Is it worth paying someone else to do what you
can do on your own? That is, negotiate lower interest rates and stretch out your repayment schedule and pay
off the highest-interest debts first? I don't think so.

3) The Balance Transfer Trap
Low-interest balance-transfer cards are a dime a dozen these days, but remember that those rates only last
a few months -- and then you have to switch cards again. The danger is that at some point all this activity
begins to show up on your credit report, and you start to look like a bad risk. Then if you get turned down, "you
could be left holding the high-interest card you were hoping to dump," says Kays.

If you think you can swing from the balance-transfer vines for a few months, just make sure you formally close
all your accounts yourself, and then notify the credit-card company to mark the account "closed at customer's
request." "Otherwise, on your credit report, it will look like the creditor closed your account," says David
Mooney, PR director of Equifax, one of the biggest credit reporting agencies. Thus making you look like an
even worse risk, even when you're doing your best not to be.

Your best debt-consolidation moves
If you own a home and have some equity in it, you have a couple of options that are relatively low in cost.
These are pretty straightforward:

Take out a home equity loan. A home equity loan has the advantage of carrying a fairly low interest rate,
currently in the high single digits, and what interest you do pay is tax-deductible, Kays points out. Most fixed-
rate loans carry a 15-year term and require that borrowers pay an origination fee of $75 to several hundred
dollars, plus the cost of an appraisal and title insurance.

Do a "cash-out" refinancing. Another option for those with home equity is refinancing your property for greater
than the amount you owe and using the extra cash to pay off debt. You get very low interest rates this way, but
you're stretching payments out over 15 or 30 years. The total interest cost over three decades can wind up
being pretty huge, so think of this as a one-time-only (if ever) option.

Refinance your car. "Most people don't think of it, but it is a secured loan and you can borrow against it," Kays
says. The danger there is that you may run out of car before you run out of debt. It's tough to buy a new car
when you owe more than it's worth.

Get a personal loan. If you have reasonably undamaged credit, you may qualify for an unsecured loan. Credit
unions (see link to the left) typically offer lower rates than banks, but even there you can expect a rate of 11%
or more. Still, that may be a whole lot less than the 20%-plus you're now paying to the credit-card company.

Negotiate better terms. You can do this for yourself easily. Just call your credit-card company and ask them to
do it (many customer service people are authorized to reduce rates right there on the phone).