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Downsides of debt relief loans

By Marcie Geffner · Bankrate.com
Sunday, February 19, 2012
Posted: 10 am ET

The National Endowment for Financial Education, NEFE, a nonprofit organization in Denver, is warning consumers about the pitfalls of so-called debt consolidation loans.

A recent online poll, commissioned by NEFE, found that 75 percent of U.S. adults said they had debt and 51 percent said they were worried about the amount they owed.

The poll of 2,525 people aged 18 and older was conducted online in December 2011 by Harris Interactive.

The poll demonstrated the overall debt burden people across the country are carrying and showed that while some consumers might continue their current strategies to reduce their debt this year, others might be feeling the crush of holiday credit-card spending, multiple debts or difficulty making monthly debt payments, NEFE said in a statement.

A debt consolidation loan might seem like a quick fix to solve such money woes, but the organization advised consumers to tread carefully, as new NEFE-sponsored research reveals that ads for these loans don't disclose the total costs or the fact that the loan might make the consumer's financial situation even worse.

NEFE CEO Ted Beck said in the statement that advertising for debt consolidation loans often fails to mention the downsides.

"Much of the focus is placed on the 'lower' amount of monthly payments, without regard to impacts like total interest paid," he explained.

Debt consolidation loans combine multiple debts into a single loan, typically with a longer term that results in a lower monthly payment. Stretching out the term leaves the consumer with a greater debt burden, which must be endured for a longer time.

NEFE offered this example: a five-year loan for $20,000 at a 10 percent interest rate would have a monthly payment of $425 and total interest expense of $5,496. Extending the term to 15 years would reduce the monthly payment to $215, but increase the total interest expense to $18,685. The consumer might also owe hidden fees and penalties.

"People who are burdened with debt need to carefully consider what is best for their financial situation," Beck said. "For some, debt consolidation loans may be a good option. But it's important that consumers fully understand the consequences."

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6 Comments
Dmitry
February 21, 2012 at 8:02 pm

I think "consumers" need to be educated WHEN to borrow.

Borrowing for long term at low interest is a great way to get capital for things that can return money (like business or investment or education) or pay off higher interest loans or some critical item that is required for consumer to function.

One thing you need to keep in mind - 15 years from now, assuming 3% annual inflation rate, consumer will need over $31,000 to acquire whatever it is he's paying for $20,000 today.

Of course, borrowing and paying interest on unnecessary luxury things (designer clothes, leisure boat, vacation, plastic surgery, jewelry, latest tech gadgets) is just another way of paying more than you have to and dig yourself into the hole.