Debt Consolidation Is and Ain’t

Despite the fact that more and more Americans need debt solutions, there is still a lot of confusion about what debt consolidation is and is not (or, as we say here in Texas, what it ain’t).

Debt consolidation is legal, ethical, and in the case of big business, pretty common practice. While there may be people selling scams associated with debt consolidation, as debt solutions go, it’s on the up and up. Debt consolidation involves re-packaging your debts in a way that gives you more favorable terms. Debt consolidation does not involve writing off debts or getting rid of debt. It can actually improve your credit score. Although you can do it through a professional organization or with a debt counselor, you can also do it on your own.

Debt settlement and debt negotiation are plans that involve reaching an agreement with your creditors that can reduce your debt. These typically involve outside organizations and, yes, there are scams associated with them. But there are also legit programs. When you settle your debt, you agree to pay a portion of what you owe in return for the debt being “settled.” You don’t get hounded by bill collectors. It will impact your credit in a negative way.

Debt management typically refers to a program that you sign up for through a third party (often a company) where they “manage” your debt while you pay them. This may appeal to people who just want to hand off their credit problems to a third party, but this is a very dangerous field–in fact, more scams are probably in debt management than any other debt solution arena. But there are still companies who do this on the up-and-up. The idea is that they negotiate or settle your debts, manage your payments, and make life simple for you. It will hurt your credit.

Bankruptcy belongs on this list, although to me it is not really a debt solution as much as a “last resort” when your finances are totally on life support. If you have to file for bankruptcy, there is no shame in it. It’s legal (it’s guaranteed in the Constitution, no less) and it’s not unethical. The only thing is that it’s extreme. Bankruptcy protects you from creditors (in fact, if you get bill collectors hounding you when you’re in bankruptcy protection, you can call them cops on them) and it not only settles some of your debts, it writes other debts off. Literally makes them go away! The bad news with bankruptcy protection is that it ruins your credit for seven years and it is terribly intrusive. Bankruptcy involves having a lawyer and going to court. The judge then has a lot of say in terms of what you have to do and can order you to sell all sorts of things as part of the terms of your bankruptcy.

Which solution is best? That depends on your financial problems, your personality, what you want to get out of the debt solution, how much you owe, the rules in your state (bankruptcy laws, in particular, vary by state), and even what you qualify for. By far the best solution is debt consolidation if you’re disciplined, if your debts are suitable for it, and if you can qualify.

Cut up? Freeze?

Today I heard an interesting bit of consumer advice on TV. A guy on the Today Show was urging people not to cut up their credit cards since credit might get increasingly hard to come by.

Now at the same time, he advocated not using credit recklessly and doing everything possible to get spending in check. He said people should live within their means.

I agree with everything in the second part. And his idea about hanging on to your credit cards was based on the idea that we should all have a little credit cushion in reserve.

But what if you can’t stand to have a credit card around you without using it? I can’t stand to have too much chocolate near my desk without eating it. If you’re like that with credit, does it really make sense to hold on to a card that could be your undoing?

I have known people to freeze credit cards by literally placing them in water in the freezer. The idea is that you still have it but it’s such a major hassle to get to it that you won’t use it recklessly.

A less dramatic way to handle a credit card might be to store it in a safe deposit box at a bank (if you have one–or would be willing to get one–they are often pretty cheap and sometimes a bank will throw one in for free when you open a new account). The card stays dry and you preserve your dignity, but it’s still a hassle to get to the card.

The problem with retaining credit cards that tempt you is that the advice is predicated on the alarmist notion that credit won’t be available in the future. Is that true? I don’t know. I’ve never known the MasterCard or Visa people to be stingy about issuing cards, particularly to people with fairly decent credit. It seems unlikely that the problem facing most overextended Americans is that they won’t be able to get credit.

On the other hand, I do know for a fact that many people can’t resist abusing credit cards.