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By Larry Andrew
Debt consolidation and debt management go hand in hand. Before you consider any type of bill consolidation loan, you should meet with a reputable debt management counselor. You will learn some valuable financial management principles. You will get a specific road map to a debt free life.
Once youre committed to applying what youve learned, a debt consolidation loan can significantly reduce your financial stress. Those bad debt management practices will become history and so will your debts.
The real key to a debt free life is learning how to best handle your finances. A consolidation loan is only a vehicle to help you accomplish your financial goals. Bill consolidation is simply taking out money from one company or lender and using that money to pay off all your debts. Then, you are only responsible for paying one company and one bill. It sounds easy and it is, if you consistently use good debt management practices.
There are several options available to you for consolidating your debt. Here are three of the more common consolidation loans.
Home Mortgage Loans
As a homeowner, you have three types of home loans that can help free up the cash to pay off your existing bills.
First, you could take out a home refinance loan. Ideally, this type of loan should be used when you can get a lower interest rate than you are currently paying on your home. You are taking out a loan from a second financial institution to pay off your existing home loan.
Make sure that your new lower interest rate is a fixed rate. If it is an adjustable interest rate, your payments may increase. It is much easier to accomplish your financial goals when you have a fixed monthly payment.
One more note on refinancing your home. Be sure to check out the terms of the agreement. Many times a financial institution will lure you in with the promise of a low interest rate. However, they may have closing costs and fees that you must pay to get the loan. If you have to pay large fees to get the loan, you may be worse off refinancing your home. Be aware of all the costs involved, not just the interest rate.
The second type of home loan is called a home equity loan. Thats another name for a second mortgage. It means that you have two payments on your home. A home equity loan usually has a fixed interest rate, which is good. It also has a specific number of years, just like your original home loan. However, it should be a much shorter time.
There are two distinct advantages for a home equity loan. It does have the fixed interest rate and there should be no penalty for paying it off early.
There are also some cautions you should know about a home equity loan. If the amount of money you owe from both your original and second mortgage loan is more than the value of your home, you could have problems. For example, if you decide to sell you house, you may have problems with your lenders. They may not want to work with you because of fear of losing their investment.
However, if you do sell your home, you will likely have a debt left over for which you are responsible. So, if youre planning on moving soon, dont think too much about a second mortgage.
Finally, as a homeowner, you can get what is called a home equity line of credit. This is where you use your home as collateral. The financial institution sets up a specific amount of money for you to draw on. It is called a revolving line of credit.
The amount of your monthly payment depends upon the outstanding balance of your loan. At a minimum, you must pay interest each month. However, this is not a good practice. It does nothing to reduce your financial debt. The more you pay down the outstanding balance from your line of credit, the less your payment will be each month.
A typical home equity loan may last 5 years. However, beware. If you close the loan before the time is over, you will pay a penalty. If your balance is zero, you will have no payment of interest or penalty.
So, if you pay off the loan early, simply stop using the money. Resist the temptation to use the money for some other debt. When the original period is over, close out the loan.
If you dont pay off the loan off before the time is over, the loan normally converts to a variable principle and interest loan. It must then be paid off over a set time, such as five (additional) years.
There is one main concern with any type of debt consolidation mortgage loan. If you fail to make your payments, you loose your home.
Credit Card Consolidation Loan
When you do not own a home, many people use what is called a credit card debt consolidation loan. Thats a big way of saying that you put all your debt from your various credit cards (and other debts) on to just one credit card.
There are three advantages to a credit card consolidation loan. First, there is almost no paper work. There is no big approval process. Second, many companies offer you the first twelve-months with no interest. Third, you will often get a lower interest rate after the first twelve months.
This is a great option, if and only if, you make your payments on time and are able to pay more than the minimum amount required. You should pay as much as possible during the first twelve months. All your money goes to pay off your debt without interest.
Now, heres the bad news. If you are late on your payment or your payment doesnt process correctly on time, your twelve months of free interest is over immediately. Read the fine print. Not only will you loose the free interest, your interest rate will likely be higher than what you were promised after the twelve-month period.
Be very careful. Credit card consolidation can be dangerous to your financial health. You must make payments on time and you must concentrate on paying off as much of your debt as possible. Otherwise, avoid credit card consolidation like the plague.
Borrowing Against Your Retirement Funds
If you have a retirement plan from your company, such as a 401 (k) or 403 (b), you can borrow some money from your retirement fund. You will have to pay a set amount of interest, which is usually quite low. However, you are paying yourself. It is your retirement fund.
The key point to remember is that you are borrowing the funds. You are not withdrawing retirement funds. There are two major problems associated with withdrawing retirement funds. First, you will pay a ten percent penalty. Second, you will have to pay taxes on the amount you withdraw. You dont want either of these options.
You must realize that if you borrow from your retirement funds, it will immediately reduce the amount of funds accumulating for retirement. If you are younger, you may have time to make up for this loss of prior to retirement.
However, you also need to weigh out the cost of paying a high interest rate for your debt. That will also impact your financial future. If you can quickly pay off the higher interest debts, you may be able to concentrate on increasing your retirement funds and restoring your future financial security.
Be sure to talk with someone in your company about the pros and cons of borrowing from your retirement funds.
I hope youve learned about a few options for consolidating your debt. If you work hard on your debt management skills and use a good debt consolidation loan, you can become debt free. It may not be easy, but it is worth it.
About the Author: Larry Andrew founded and operated his own educational consulting corporation for over twenty years. He has extensive experience in teaching, business and finance. He is the publisher of
bad-debt-management.com
.
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