If you find yourself buckling under the weight of credit card, student loan, or medical debt, debt relief can provide much-needed respite to a suffocating situation.
Debt can be a high source of stress and insecurity, especially when it is coming at you from different directions and the amount owed is overwhelming.
Believe me, I’ve been there and done it (heck, I even bought the tee-shirt).
Not to fret. With a bit of reorganizing, there are ways to ease the financial burden and pay off debts faster.
The trick is to find the type of debt relief that best suits your situation and needs.
Types of Debt Relief
Debt relief is the reorganization of debt (either fully or partially) in order to provide you a break from the monthly amount owed.
There are several debt relief options out there so it’s important to understand what they are and how they work.
- Debt consolidation
- Credit counseling
- Debt settlement
For the purpose of this post, we’re focusing on the various types of debt consolidation and credit counseling.
Before jumping into the first debt relief invitation you come across, it’s important to do your homework.
Keep reading for the skinny on your options.
Debt consolidation combines high-interest debts, such as credit card bills, into a single manageable monthly payment.
This option is worth considering if you get a lower interest rate, which will allow you to reduce your total debt and pay it off faster.
This simplifies managing your debt and hopefully offers debt relief with a reduced interest rate and lower monthly payment.
Debt consolidation can be used as a tool for credit card and student loan debt.
A word of warning—if not managed properly, you can get into more debt with debt consolidation.
For example, you roll all of your debt into a 0% credit card and then start using your regular credit card again without paying off the balance monthly. Interest gets tacked onto your payment.
This nullifies your consolidating tactic.
Keep your sight set on the goal…debt elimination. You have to stick to the plan in order to experience financial freedom.
Balance Transfer on Credit Cards
Self-managing debt is possible with a low or 0% annual percentage rate (APR) balance transfer credit card.
Usually, you need credit scores 670 or higher in order to qualify. If you do, the possibility of savings can be substantial.
Some credit cards have balance transfer offers up to nearly two years, which can save you hundreds of dollars in interest payments.
Sounds like a no-brainer, right?
But, here’s the challenge…
Transferring a balance still means carrying a monthly balance (even one with a 0% interest rate). This means you still must make on-time payments of at least the minimum due on the transfer and for any new purchases.
If delinquent, you could end up losing the credit card’s introductory APR on your transferred balances along with the grace period.
Plus, you could incur unexpected interest charges (and potential penalty APRs) on new purchases.
Put your mind to it to take full advantage of the incentives and avoid high-interest rates while paying down debt.
Make sure to study these offers carefully and keep your eye on the time limit of the 0% contract.
The last thing you want is to be stuck with sky-high interest rates again.
Debt Management Plan (DMP)
A debt management plan (DMP) is a repayment plan created by a credit counselor that assesses the best way to repay your debt in a reasonable amount of time.
Plans typically last 3 to 5 years.
This option takes several debts and rolls them into one monthly payment at a reduced interest rate.
Once you start the DMP, you’ll make a single monthly payment to the counseling agency, which will then distribute the money to your creditors.
Like all options, there are pros and cons.
The benefits of a DPM include having several debts consolidated into one payment and an interest rate cut by half or more.
This helps you pay off debt faster than doing it yourself…and you only have to make 1 monthly payment instead of multiple payments.
One drawback is that debt management plans can’t be used for student loans, medical debt, or tax obligations. It’s mostly for credit card debt.
Another downside is that, if you miss a payment, it can greatly affect the plan and end your interest rate cuts.
And, the agency may also charge you a small monthly fee for the service.
You are also locked into the timeframe of 3 to 5 years. Usually, you’re unable to use credit cards or get new lines of credit while on the plan.
A debt management program may make sense for you if…
- Most of your debts are unsecured credit card balances.
- The interest rate offered is much lower than your current credit cards.
- You have a secure income so the payment is doable.
If you think debt management is right for you, make sure you find an accredited company certified by the National Foundation for Credit Counseling.
A July ValuePenguin 2020 study shows that the average woman in the U.S. has $5,245 in credit card debt.
To help alleviate the challenge of repayment, consider taking out a personal loan from a bank or lender.
If you have a decent credit score, you may be able to use this type of consolidation loan.
Personal loans allow you to bundle all or most of your debts into one loan at a lower interest rate.
The result is owing less per month, which can ease the struggle to make loan payments on time.
A lower interest rate may also allow you to put more cash toward the loan balance. This gets you debt-free faster.
Before opting for a personal loan to pay off credit card debt, make sure the offered interest rate is lower than what you’re currently paying.
Also, you’ll want to consider the repayment term lenders offer as well.
A longer repayment term than needed to pay off the original debt could cost you more in interest.
On the other hand, if a longer repayment term helps you afford to repay the debt, it could be a worthwhile choice. The added time will limit the possibility of missed payments and protect your credit.
You can also get a personal loan through family or friends. This may be a favorable option, especially if there is low to no repayment interest.
Before you ask for a personal loan, consider the impact money matters may have on your relationship and how much you want loved ones involved in your finances.
The added dynamic may not be worth it.
Home Equity or Line of Credit
Equity is the value of your home minus what you currently owe on it.
As a homeowner, you can use your home equity to help pay off debt through either a home equity loan or a HELOC (home equity line of credit).
A home equity loan is a lump-sum loan used as a second mortgage against your home.
These loans sometimes come with a lower interest rate than other types of debt consolidation. You pay in monthly installments until the loan is completely paid off.
Another option is a home equity line of credit, or HELOC. A HELOC is an available line of credit that lets you borrow money using your home’s equity.
Instead of one large payment, you can withdraw money as you need it. Like a credit card, over time you need to repay the money borrowed.
It’s a good idea to explore other options before you tap into your home’s equity to pay off debt.
Home equity loans and HELOCs are considered secured loans (or credit lines) since you’re using your home as collateral. This means your home could be taken from you if you don’t stay current on your payments.
The attractive part of secured loans as a debt relief method is that they usually carry a much-lower interest rate than other types of loans, like personal loans.
For debt consolidation, a home equity loan is usually a better option than a HELOC. The one lump sum lets you pay off all your debt, and then make monthly payments to your home equity loan.
According to The Global Benefits Attitudes Survey, 38% of American workers live paycheck to paycheck, with 18% of employees making more than $100,000 annually living paycheck to paycheck.
Having the guidance of a credit counselor can ease this concern and help provide debt relief.
Credit counseling is like a type of financial therapy.
Credit counseling is a debt relief option created to help consumers avoid bankruptcy and leave paycheck-to-paycheck living behind.
The goal of most credit counseling is to provide financial education on money management while helping a debtor steer clear of bankruptcy.
It provides guidance and support on tough money matters such as consumer credit, money and debt management, and budgeting.
And certified credit counselors also help you get to the root cause of debt, and provide tools that help you avoid delinquent payments or maxed-out credit cards.
Many counseling services will also have your back with creditors, doing what they can to reduce interest rates and late fees.
Depending on the situation, counselors tailor solutions to best meet your needs. A debt management plan may be a great approach for one person while debt consolidation may be the answer for another.
If you think credit counseling is right for you, reach out to the National Foundation for Credit Counseling for help.
Debt settlement helps with debt relief by offering a lump-sum payment to a creditor in exchange for a portion of your debt being forgiven.
This is often used as an alternative to bankruptcy–especially if your debts are held by debt collectors.
However, there’s a lot of downside to debt settlement, and it’s not a sure thing you’ll come out ahead.
If you select this route, you will need to hire a debt settlement company.
Fees are typically 15% of the debt amount owed.
It takes time–typically 36-48 months–for you to put enough money in escrow for the debt settlement company to make a competitive offer.
In the meantime, you rack up late fees and penalties.
And then there are taxes you’ll need to pay on the amount forgiven.
Plus, your credit score will take a hit during the debt settlement process.
There are two types of bankruptcy both of which have repercussions, including significant negative impact on your credit score.
Filing for bankruptcy should definitely be the last choice for debt relief.
Debt Relief Don’ts
I’ve made almost every personal finance mistake possible. Here are a few things to avoid while paying off debt…
- Don’t borrow against your 401(k) unless you absolutely have to. A 401(k) loan must be paid back typically within 5 years, with interest, and you do not have to pay taxes on the amount borrowed.
- Don’t drain out your 401(k) to pay off debt because while you’ll be debt-free, you’ll have nothing saved for the future, and you will have missed out on all that compounding interest. While there are some exceptions to 401(k) withdrawals, if you’re under 59½ years old, you will be subject to a 10% early withdrawal penalty, and the money will be taxed as regular income. Also, your employer must withhold 20% of the amount you cash out for tax purposes.
- Don’t be pressured into taking a loan or consolidation method if it doesn’t feel right. Do the math first and, if it makes sense but you still are unsure, don’t go through with it.
- Don’t rack up more debt while you’re trying to pay off what you have. This is often easier said than done. It takes commitment and willpower.
- Don’t ignore saving while you’re paying off debt. Trust me, the last thing you want to do is work your butt off to pay down debt, only to have nothing saved for an emergency. When this happens (which it will because it’s called life), you run the risk of getting into even more debt.
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Disclaimer: I am not a financial planner or expert. All information in the post is my opinion and should not be used as financial advice. This is based solely on my experiences. Any action you take based on the recommendations from this blog is at your discretion. This post contains some affiliate links. If you click on an affiliate link and purchase a product/service, I may receive a small commission at no extra cost to you. However, I only recommend products, services, and/or businesses that I love and believe will add value to you.