A debt consolidation loan is a useful tool to overcome your debt, but if you don’t have a plan in place to move forward, you’ll end up with more debt than when you started.
Here are six common debt consolidation mistakes people make and how you can avoid them:
Mistake 1: Not finding the root cause of how you got into debt.
Debt consolidation is a solution to your debt problem. But if you don’t find out the root cause of how you ended with a mountain of debt, you may not change the habits that got you into this situation. So, the best thing you could do is reflect on how you ended up in debt, acknowledge the severity of the situation, plan a way to get out of it and mend your approach to ensure it won’t happen again.
Steps to find out the root cause of your debt situation:
- Comb through your monthly bills, credit card statements, receipts, and other expenses and create a detailed breakdown of your spending to figure out the culprit.
- Track your spending and see where your money is going.
- Once you’ve identified the negative behaviour, create a plan or budget, and stay disciplined to avoid getting into bad financial shape.
Even if you have cleared your debt today, and if you keep on running new debts every month, it’s just a matter of time before your debt spirals out of control. To avoid getting yourself into debt again, you need to make two changes: cut spending and increase income.
Mistake 2: Not shopping around.
When it comes to debt consolidation, people get too excited to pay off their debts with the first option that comes their way, but that may not be the best one for them.
With so many people struggling with debt, there are plenty of options for you to choose from. Some of the most popular options are:
- Balance transfer– Transferring all your credit card debts onto a single 0% or low-interest credit card.
- Personal line of credit– Opening a line of credit to pay off all the debt you’ve incurred,
- Debt consolidation loan– Signing up for a secured debt consolidation loan or unsecured personal loan with the bank or other financial institutions.
Explore all the options and crunch all the numbers before settling on the best choice for debt consolidation.
Mistake 3: Not keeping your spending in check.
When you consolidate debt onto a single card or a loan, you free up a lot of money. If you are not careful, you might spend this free money frivolously and increase your chances of getting into debt again.
You need to go ahead with debt consolidation with the intention of turning over a new leaf. This means limiting your access to credit and the temptation to spend.
Some tips on controlling your credit card spending:
- Avoid using your credit cards until the debt is paid off.
- If you think you don’t have the discipline it needs, close or cut up the credit cards. However, closing your credit is not recommended as it reduces your average credit length, thus affecting your credit score. If you must close a credit card, don’t close the one with the longest credit history.
- If you are concerned about getting tempted to make purchases on your credit card, request your credit card provider to lower the credit limit on your card.
Mistake 4: Not having a proper repayment plan.
Don’t get comfortable after you have consolidated your debt and don’t be satisfied by just making the minimum payments. You need to have a concrete plan to repay the loan; otherwise, you’ll be sinking in the same hole.
If you keep making minimum payments on the consolidated loan, it could take years to pay off. And if you keep on adding more debt, the journey to becoming debt-free can be long and painful.
Make these decisions. They may be tough but will have significant benefits later on.
- Determine how much you can afford to allocate to debt repayment.
- Plan a budget that contains a dedicated repayment amount. Automate the payment.
- Throw extra bonuses, cash gifts, and tax refunds that come your way to pay your debt.
- Ruthlessly cut your spending. Put a hold on all your indulgences and subscriptions until you are debt-free.
- Pick up a side gig to increase your income.
Mistake 5: Not setting up an emergency fund.
When you’re paying down debt, you tend to become laser-focused on paying off the balance, but totally ignore saving up for sudden expenses. So when emergencies crop up, with no money saved, you end up charging the expense on the credit card.
- Try to keep a little money aside in the emergency fund.
- Saving 3 to 6 months’ worth of living expense is ideal; if this sounds unrealistic – considering your current financial situation – start small and keep adding to it every month to build your emergency fund.
Mistake 6: Not choosing a shorter repayment tenure.
If you want smaller monthly payments towards your debt consolidation loan, you may be tempted to choose a longer repayment tenure. But, stretching out the repayment process for a long time has a downside – you end up paying more in interest over time, even if your loan is at a lower interest rate.
When choosing your repayment tenure, follow these tips:
- Compare loan repayment terms when choosing the lender.
- If you can afford, choose the shortest possible repayment tenure.
- If your finances don’t allow larger monthly payments, you have no choice but to stick to small monthly payments and longer repayment tenure.
These debt consolidation mistakes are costly but are easy to avoid. You need to make sure that you stay disciplined, curb your spending, and make your payments on time.
When looking for a debt consolidation loan, make sure you shop around and choose a loan with a low-interest rate and flexible repayment terms. MoneyTap offers debt consolidation loans at low interest and flexible repayment options. Choose MoneyTap and get rid of your debt faster.