Navigating the Minefields of Debt Consolidation

By Dawn Handschuh, Personal Finance Writer   

If you're having trouble making monthly bill payments, debt consolidation — the process of combining multiple debts into one — may be very appealing. After all, if you can consolidate current high-interest debts into one low-rate loan, you'll reduce borrowing costs and gain convenience.

Debt consolidation companies typically convert several high-interest, unsecured loans (like credit cards or medical bills) into one secured loan that's backed by collateral — your home. Secured loans offer better rates but also put your house on the line if you default on payments.

An industry riddled with bad business practices

Debt consolidation companies have been heavily criticized for deceptive practices and excessive fees. Today, they sometimes refer to themselves as "debt negotiation," "debt management" or "debt settlement" companies (though the latter term has a different meaning altogether). Some question whether it's even possible to find a reputable debt consolidation services provider that offers truly affordable rates. And don't assume an organization is reputable just because it's operating under "non-profit" status.

Worse still, the ability of debt consolidators to do what they promise is becoming compromised. Many creditors have become unwilling to reduce interest rates for consumers entering debt consolidation programs.¹

High-cost loans in disguise?

While debt consolidation can lower your monthly payments and interest rates, you could still end up paying more than if you tried to negotiate with creditors yourself. That's because most companies add a fee (say, 10%) to your monthly payments.

If you still want to work with a debt consolidation company, do your due diligence first. Check for complaints against any and all companies you're considering with your state attorney general's office, state consumer protection commission and the Better Business Bureau.

Steer clear of debt consolidation companies that:

• Offer a "one size fits all" approach. A good company should offer budget counseling as well as debt consolidation.
• Charge excessive fees.
• Use pressure or a hard sell.
• Pay their employees by commission, a tip-off that your best interests don't come first.
• Have a registered address in Maryland or Florida, two states that don't regulate debt consolidation companies.

Footnotes

¹ "First Ever Study of Credit Counseling Finds High Fees, Bad Advice and Other Abuses by New Breed of "Non-Profit" Agencies," Consumer Federation of America,April 9, 2003