Tuesday, April 19, 2011

Debt Consolidation Schemes

If you are heavily in debt, people pretty much assume you are stupid.  So they offer you yet more ways to get further into debt.  The debt industry is very good at exploiting people, over and over again.

There are blogsites a-plenty out there that tout ways to get rich or get out of debt.  And most of them are either monetized blogs (which take ads from the very industry that exploits the debtor) or are just con-jobs to get debtors to sign into more and more debt.  And of course, many are just chock full 'o bad advice, such as how to shop your way to success!  Ugh.

One gambit is the "debt consolidation" loan, and while I don't want to say this is something you should never, ever do, it is probably something to avoid at all costs - or at least try to be smart about.

Why is debt consolidation a bad idea?  Because it plays into the monthly payment mentality (the cash-flow) mentality that is a bad way to manage your finances.

You end up in debt - maybe it is car loans, credit cards, and other debts, and the monthly payments are onerous.  A debt consolidation site seems like the answer!  You went looking for a Genie, and he magically appears!  But as I noted before, beware of Genies - they are deceitful and lie.

The debt consolidation people offer to re-finance and consolidate all your loans into one package with a low monthly payment.  Sounds great, right?  So what's wrong with it?

1.  You still OWE the money.  Regardless of "cash flow" your balance sheet is still heavily in the RED and this means your net worth is still in the tank.  You have to pay back that money, over time.

2.  You are paying more interest.  The interest rate may be lower than your credit cards, but since you are now financing that take-out Pizza over 30 years, the overall interest will easily double the value of your purchases.  Many people pay higher interest rates but don't realize it, because since the debt is amortized over a long period of time, the monthly payment seems smaller.

3.  Hidden Fees:  The hidden fees are not so hidden, actually, but the chump who signs the loan has the "low monthly payment" stars in his eyes and overlooks $4000 in closing costs and junk fees, just to get out from under $50,000 in debt - which they don't get out from under, of course.

4.  New Debt:  Your typical debt consolidation victim then rewards their perceived financial acumen by going out and racking up those credit cards yet again and ends up over a barrel, but now twice as bad as before.

5.  Credit Rating:  Since you now have this onerous debt on your credit report, the credit offered to you is of the worst sort - high interest car loans and crappy high-interest credit cards.  So our chump ends up charging it all back up again, but at the highest rates possible.  Not only is bankruptcy possible, but inevitable.

You see, the problem with debt consolidation is that it does not address the underlying problem - living beyond your means.  And unless you address the underlying problem, nothing will change.

People get into debt in many ways - medical debt being the biggie for many.  But far more of us do it the old-fashioned way - spending more than we make.

The debt consolidation loan, like the home equity loan, serves only to prolong bad economic behavior and put off the day of judgement for another few years.

If you don't change your behavior, nothing will change.  And the debt consolidation loan allows you to continue on with the same bad behaviors - at least for a time.

Cutting back on expenses and selling off junk are two big starts.  If you are thinking of a debt consolidation loan and at the same time have a cell phone and Cable TV - and/or a hobby car, motorcycle, or boat in the yard, well, your head is up your ass so far, you can see your tonsils.

Getting out of debt requires sacrifice and effort.  Taking the easy way out is what got you into trouble in the first place.  The siren song of the debt consolidation loan is that you can keep your Harley and your speedboat, and keep charging the take-out pizza on your credit card - that you need not change your behavior at all!  But what happens when you do that is you keep dragging your net worth down, and your debt load increases even faster.  By the time you reach the credit limits on your credit card, you are doubly screwed - and no debt consolidation loan is available this time around.

Like co-signing loans, payday loans, rent-to-own furniture, and check-cashing stores, the debt consolidation loan is the epitome of poverty-think.  Only poor people get debt consolidation loans, which is one reason they are poor.  You think poor, you act poor, you will be poor.  Stop doing that.  Right now!

Sell off the crap.  Cut the unnecessary subscription services (which means basically all subscription services) and start living within your means.  Once you do that, you can pay down your debts, and it is likely that a "debt consolidation loan" won't be necessary.

Theoretically, yes, it is possible that a home equity loan or debt consolidation loan could give you "breathing space" to get your financial act together and pay down debt.  But in practice, it rarely does, as once you get that "low low monthly payment!" the first thing you'll do is go out for Chinese Food.

And on the way back from that, you'll cruise by the new car dealer.....

And the whole process starts over again...and again...and again!