Debt Consolidation

Debt consolidation typically refers to a secured loan (like a mortgage refinance loan) that is used to pay off debt with other creditors. A debt consolidation loan may be a viable option if you own a home, but the biggest downside to a debt consolidation loan is that the debt essentially changed from an unsecured debt (e.g. your credit cards) to a secured debt. Consequently your personal assets (e.g. your home) will be at risk. If at any point you can't pay your bills, your creditors can come and take your personal property - thus creating a bigger problem than you had to begin with.

Another drawback is that although a debt consolidation loan may result in lower monthly payments, it will not reduce the amount you owe. In fact, you have to pay back 100% of the debt consolidation loan, plus interest. The interest rate is sometimes lower than with unsecured debt, but this is because debt consolidation loans are usually secured loans that cannot be lowered or negotiated. Once you sign up for a debt consolidation loan, you're betting your house (or any other asset you've used to secure the loan) that you will be able to make timely payments each month.

Debt consolidation is right for some people, particularly if you're not at risk of falling behind on your new consolidation loan payments and have the discipline not to charge back up the credit cards that were paid off. However, if you are struggling to make your payments, you should consider debt reduction or credit counseling, not debt consolidation. This way you are dealing directly with the problem, not temporarily avoiding debt problems or making them worse.