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How Consumers Become Debt Free

May 10, 2008
The problem of personal, or individual, debt has been on the rise in recent years. It is estimated that the average household in the US has nearly $20,000 in non-mortgage debt. Due to such a large amount of debt most people have trouble repaying their debts and need help to do so due to. There are a couple ways to start on the road to debt relief, however.

An individual may consider debt consolidation. Debt consolidation is when the individual takes out a loan so he or she can pay off previous loans that they have. There are three main reasons why someone would choose debt consolidation. These reasons are so the person can secure a lower interest rate, secure a fixed interest rate, or just for the convenience of servicing a single loan.

Sometimes a company may take advantage of the benefit of refinancing to charge very high fees in the debt consolidation loan. Some unscrupulous companies will purposely wait until an individual has backed themselves into a corner and must refinance in order to consolidate and pay off bills that they are behind on the payments. The individual may lose their house if they do not refinance, therefore they are willing to pay any allowable fee to complete the debt consolidation. This is known as predatory lending. Most debt consolidation transactions do not involve predatory lending.

There are other ways to work towards debt relief however. Credit counseling is one way to get on the road for success. Credit counseling basically informs consumers about ways to avoid incurring debts that are unable to be repaid. Most people when dealing with credit counseling with start a Debt Management Plan, or a DMP. A DMP will help the debtor by allowing him or her to work out payment plans with their creditor so they can begin paying off their debt. DMP's generally offer their clients reduced fees, interest rates, and payments.

There are some criticisms of credit counseling though. Many credit counseling services employ people hired off the street who are trained in credit counseling after being hired. Therefore it is possible that the person helping you may not have any formal training in financial management other than what they learned when they got hired as a credit counselor. The training received as a credit counselor is usually minimal and focused only on the services provided instead of a full course on financial management.

Another criticism of credit counseling is that participating in a Debt Management Plan will ruin a consumer's credit. The participation in such a plan does appear on consumer credit reports, and the client may have more difficulty getting a car or home loan and possibly be denied any further unsecured credit, such as a credit card. Some lenders view a customer's participation in a Debt Management Plan as indicative of the customer being unfit to manage their finances. This is because lenders often take into consideration multiple risk factors to decide if you are worthy of credit. However it is much better to have the fact that you used a DMP rather than going into bankruptcy on your file. Most lenders won't do business with an individual who has bankruptcy on their file, and bankruptcy stays on your file for 10 years. A DMP, however, is considered a minor risk and is more likely to be overlooked by a lender.

Closing Comments

Both debt consolidation and credit counseling are good ways to start on the path to debt relief. You can choose to go with debt consolidation and take out a loan to pay off previous loans. As long as you watch out for predatory lending then debt consolidation is a fine choice. You can also get credit counseling and work with your creditors to reduce your payments and start your own debt management plan. Both plans will help lead you to your debt relief.
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