If you are wondering whether you should get a debt consolidation loan in order to stave off bankruptcy, you may want to think long and hard about it. Especially if you are planning on using the equity in your home to secure the loan.
Sidebar: If you are not in serious debt trouble at the moment, and your chances of having to file for bankruptcy in the near future are slim to none, then the rest of this article will not pertain to your situation. Instead, I recommend that you explore all of your debt relief options, of which, debt consolidation loans are just one choice. Read more about your debt help options here.
Now, if you are still with me, let's get down to business. If your financial situation is such that you even think that you may have to file bankruptcy at some point in the future, then we need to discuss whether a debt loan makes sense for you.
Let's first consider a whether a debt consolidation loan that is unsecured makes sense. If the interest rate is lower than you are paying now, and the monthly payments will be lower and more easily managed, then this is probably a good option for you. Why? Because you are not putting any of your assets at risk by offering them as collateral for the loan.
By keeping your debt unsecured, you are keeping your options open. One of those options is debt settlement. If you are not familiar with debt settlement, it involves a negotiated settlement with your unsecured creditors for an amount less than the full value of your debt. In some instances your debt can be reduced by as much as 70%.
The problem is, of course, that getting a debt consolidation loan when you are already deep in debt, and struggling to pay off that debt, is difficult to say the least. Unless you have equity in your home...
Even in the best of circumstances, using your home as collateral for a debt consolidation loan is a decision that should not be taken lightly. When things don't go as planned, you are potentially putting your home at risk to your creditors. And if you are already in fairly bad financial shape, it is a very bad idea, period. And I'll tell you why.
Swapping unsecured debt or secured debt is rarely an advisable move. As I mentioned above, you will not be able to seek a debt settlement solution if all of your debt is secured. Without the option of settling your debts, bankruptcy becomes a real threat. And if you do have to end up filing bankruptcy, you may really regret the fact that you used your home to secure that debt consolidation loan.
When you file Chapter 7 bankruptcy (called "liquidation" bankruptcy) many of your assets are sold in order to raise cash to pay off your creditors. However, you are able to keep a some assets, even when you file bankruptcy. And one of those things, depending on which state you live in, is the equity in your home. In fact, in some states such as Florida and Texas, you get to keep all of that equity. Let's look at an example for a moment.
Let's say that you own a home worth $200,000, with a $150,000 first mortgage on it. You have unsecured credit card debts of $50,000 that are drowning you. You decide to get a debt consolidation loan secured by your home for $30,000 to pay off some of those credit cards. The problem is that 18 months later you gone further into credit card debt and now you are faced with filing Chapter 7 bankruptcy. Depending on the state you live in, you will likely get to keep the $20,000 worth of equity in your home which is good. But, had you not used your home to secured your $30,000 debt consolidation loan, you would still have $50,000 in equity and it is possible, again depending on your state, that you could have kept the entire $50,000. In other words, the fact that you decided to get a debt consolidation loan for $30,000, in the end cost you $30,000.
When most people think about a solution to their debt problems, many automatically assume that a loan to consolidate their debts is the answer, when in fact, it rarely is. The reality is, you cannot borrow your way out of debt. But if a consolidation loan is not the answer then what is?
If you are struggling with your debt and looking for an answer, it may be a wise decision to speak to a credit counselor. A credit counselor can assess your financial position and help you prepare a thorough budget. They will also counsel you on your other debt reduction options instead of opting to get a debt consolidation loan. They will present alternatives and if necessary refer you on to a bankruptcy attorney. (But only after they have exhausted other debt relief options.)