Debt Reduction Can Set You On Course For A Brighter Future | SmartGuy

Debt Reduction Can Set You On Course For A Brighter Future

Financial Plan & Invest

Debt reduction can help the many thousands of people who are currently saddled with enormous consumer debt loads.  Getting control of your consumer debt is important if you wish to improve your current credit score.  And a poor credit rating can make purchasing a home or an automobile virtually impossible.  There are other strategies that can help you improve your credit rating, but reducing an overly burdensome amount of consumer debt is essential.

Your ability to pay on your debt obligations affects you every time you apply for credit.  Whether you are in the market for a home or you need a new car, your history of late payments and defaults will haunt you for years.  Now, prospective employers are getting into the act by checking the credit ratings of their applicants to see if they are trustworthy enough to hire. 

The process of reducing consumer debt is essentially an agreement betwixt a creditor and a debtor.  The creditors want their money, but they are aware that there are situations where repayment becomes more unlikely. The debtors are struggling under an unmanageable mountain of debt that is wrecking their ability to make new purchases.  When they realize that the chance of default on a debt has become great, creditors become interested in talking about debt reducing options with their debtors.  This includes the option of accepting a reduced lump sum payment to be considered payment in full for the original obligation.  In this case, something is better than nothing for the creditor.

This strategy is not the same as debt consolidation.  The process of consolidating ones debt involves getting a loan to pay off the loans you already have.  This is used most often with high credit card obligations.  A good thing about debt consolidation is that the debtor is now only dealing with one financial entity rather than several different credit card companies.  Also, the consolidation loan is typically at an interest rate that is lower than the interest rate on the credit cards, especially if the loan is secured with real property.

The difference between reduction and consolidation is that a reduction strategy actually reduces the amount owed on the debt.  Consolidation merely reduces the interest charges on the principal and lowers the number of creditors to make repayment more manageable and lessen the impact of late fees.  As such, consolidation is the preferred avenue for credit companies, and they will advise you to take this direction rather than choosing reduction.

An important caveat to reducing your debt rather than consolidating it is that reduction can have a deleterious effect on your credit for the short term.  Reducing your debt is a lot like bankruptcy negotiations.    Credit companies will see this on your report as proof of your inability to pay your obligations in full, and will balk at extending new lines of credit to you.  However, for someone who is drowning under insurmountable debt amounts, reduction can put them back in to a position where they can then slowly work in repairing their credit. 

Knowing your options first will help you to make the right decision for yourself.  Everybodys situation is different.  For some, a debt consolidation loan might be the best way to handle their financial issues.  But the same is not true for all.  Even though it has an adverse effect on your credit rating in the short term, reducing the amount of debt you owe now might be your best alternative to quickly get yourself out from under a smothering blanket of credit card bills.  Because of the harmful short term side effects of debt reduction, it is advisable that you contact a financial advisor to further discuss what debt management options are available to you.