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The key to successful debt consolidation

Published:Friday | August 4, 2017 | 12:00 AM

When your personal finances teeter on the brink, your first instinct might be to do something drastic. Freeze your credit cards in a block of ice. Vow to never eat out again. Forgo your Netflix subscription.

These tactics may help, but financial experts say paying off debt requires a more comprehensive plan. One common strategy is debt consolidation, rolling multiple debts into a single loan or credit card at a lower interest rate.

"Consolidating debt into one spot can be empowering and helpful from a psychological standpoint because it feels manageable," says Mathew Isaac, associate professor of marketing at Seattle University's Albers School of Business and Economics.

But debt consolidation is not a solution for everyone. Consolidation works best for high-interest-rate debts such as credit cards, but it is only the start of a long process. Here's how to make it work.


Make a realistic budget


"In order for consolidation to work well, there has to be a clear plan of attack," Isaac says.

A basic budget allocates money for debt payments, an emergency fund, and contributions to retirement savings, but that isn't enough when consolidating, says Lara Lamb, a certified financial planner at California firm Abacus Wealth Partners.

Successful budgeters avoid adding debt by accounting for infrequent expenses, such as car registration fees, as well as times of the year when expenses run high, like the holidays, Lamb says.


They also leave room for fun


"People will go on a spending 'diet' and then feel like they've restrained themselves for so long that they go out and splurge," Lamb says. "A realistic budget gives you enough to spend on things you value and love."

A cardinal rule of consolidation is not using your credit cards as you pay off debt.

People cut up their cards, lock them away or freeze them in ice, methods that seem extreme, but which experts say can be effective. Such tactics are known as "commitment devices" and help people achieve long-term goals, says Rebecca Rouse, director of the Financial Inclusion Program at Innovations for Poverty Action, a non-profit that has conducted research on debt repayment.

To stay committed, write down why you want to be debt-free and how often you will make payments, and set periodic reminders to check your progress, Rouse says.

Locking away cards doesn't mean closing accounts, which could hurt your credit. The one exception to the no-use rule is a nominal charge on your card every few months paid on time and in full to keep the account active and your credit intact, says Shawn Tydlaska, a certified financial planner at California firm Ballast Point Financial Planning.


Compare consolidation products and enlist moral support for your goal


Personal loans for debt consolidation typically come with lower interest rates than credit cards, and you can borrow more money. Rates depend on your credit profile and how much debt you have.

Debt may feel like a shameful topic, but peer support is a powerful motivator and can hold people accountable, say Isaac and Rouse. Debt-support groups, online forums, or a close family member can keep you on track to reaching your goal.