Dealing with debt can be pretty daunting, no matter what your financial situation is.
I often talk about financial difficulties and what to do if you’ve run out of options in this column. But recently I’ve heard from a number of people who have asked me for advice on consolidating debt without damaging your credit file.
Lending has changed a lot in just the last few years, so if you’ve consolidated your debts in the past, you may find that things have changed dramatically since then. Here’s my guide on what to watch out for.
What is debt consolidation?
Over time, it’s possible – and common – to build up debts with a range of companies. You might have credit card debt, loans, buy now pay later commitments, overdrafts and high-interest short term loans. These might seem to be at "manageable" amounts – say, under £3,000 each. But the monthly payments are accruing interest and end up costing you a fortune.
Debt consolidation is where you bring some or all of these debts under one roof. There are lots of ways you can do this, all with catches (of course). While there are many options, it might not be possible to consolidate the whole amount you owe in to one loan. Combining the debts in to more manageable chunks is a possibility, but might involve multiple credit checks.
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Too many can "hard" credit checks can affect your credit. No matter what option you chose, bear in mind that you’ll need to sit down with the calculator and work out what you’ll be paying in total over the life of the loan or credit options you take out.
Credit checks
When you are considering a loan, credit card or form of credit, the lender will usually run a credit check with a credit reference agency. A "hard" check will leave a marker on the file. Too many in a short period of time will impact on your credit. But these days we can go for the soft option!
A soft credit check doesn’t leave a marker on your file. It’s a good way to check to see if you might get a yes, before formally applying. So use this option as it’s the best way to find out if you might succeed with a credit application. Many comparison sites have this as an option.
Zero-interest balance transfer credit cards
For most people, the best option will be a zero-interest balance transfer credit card. With these cards you can consolidate debts from existing credit cards and other (but not all) forms of lending - and you don’t pay interest on the money you transfer… for a set period of time.
The longer the interest-free period, the more time you have to pay off the debt you transfer. The catch is you have to pay a fee – usually a small percentage of the debt – to transfer it over. So work out what this works out at in real terms before signing up. Zero-interest cards are great ways to reduce your debts without paying more money. But don’t forget the golden rules:
- Cut the card up on receipt and never use it. The interest on new purchases can be terrifying.
- Bear in mind that the interest rates when the deal ends can be higher than a normal credit card. So be disciplined!
- Work out what you need to pay each month to clear the card during the interest-free payment, set that as your monthly payment and set up an automatic payment so the money vanishes from your account on the due date.
- Put the date the interest-free period expires one month before the end in your diary or phone calendar. This is so you can find another deal if you haven’t paid everything off.
If you want to look at some of the options, MoneySavingExpert.com has loads. Remember that it’s not just the longest time period that matters, but the size of the fee too. It’s a good idea to get as much of your debt on to a zero percent card though as it’s the least costly option. Most importantly, this is where you use the "soft credit check" options to see what you qualify for.
Consolidation loans
There are two main types of consolidation loans. Secured loans are linked to an asset – usually your house. If you miss payments, then you risk losing that asset. For that reason I don’t recommend any form of secured borrowing. If your finances are that tight, then skip to the section on the fabulous StepChange below.
Most forms of lending are unsecured. But there’s a huge range of loans out there and they all have differing rates of interest, length of contracts and rules. If you’ve got quite a bit of debt outstanding and can’t get on to a zero interest credit cards you might want to try consolidating the remainder in to a personal loan. Sadly, you can’t predict what the lending rates will be because it depends on:
- Your credit score.
- How much you borrow – though ironically the more you borrow, the lower the rate goes.
- How soon or long you need to pay the debt off.
This is where you have to do a few calculations – and know your own limits. Tempting as it may be to borrow more to get a lower rate, this isn’t likely to be the right answer for you. You could cut your monthly payments by agreeing to a longer term for example. But this will also cost you more over time.
I’d get out a piece of paper and write down all your outstanding debts, how long they run for and what you’ll have paid in full at the end of term. See if you can get some soft credit checks on a loan but look at that end figure, not the APR rate. It’s what you pay in total that counts.
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Beware the businesses that promise to wipe your debts
It is the source of a much frustration to me that Google allows businesses that masquerade as official debt charities and Government organisations to "game" their system by paying to appear at the top of search results. These firms are ridiculously official looking and convincing and I often hear from people who think they’ve signed up to a legitimate, Government-sanctioned method to reduce the bills.
But they aren’t. These are debt management firms. While legal, they effectively consolidate your loans, negotiate with creditors and charge you for doing so. But the golden rule is to never through good money after bad. I’ve heard horror stories from people who say that the business has not done their job, or they continue to be harassed by the original lenders. Beware – and if a business wants to charge you to reduce your debts, be extra cautious.
The same goes for businesses that offer IVA and bankruptcy options as though they are lifestyle choices – particularly through glossy ads on social media. IVAs and bankruptcy are serious financial commitments that can have a major impact on your life and credit. Instead, contact…
StepChange
If you can’t afford your debts, then you should speak to StepChange. This free debt charity helps you consolidate your debts and agrees payments to all the creditors at a rate you can afford. You make one manageable payment each month. But this will have an effect on your credit file and score.
I can’t praise StepChange highly enough – their work can transform people’s lives. I asked Chief Client Officer, Richard Lane, to give me his advice on debt. Richard said: “If you find yourself with large amounts of debt, it is key to sit down and assess your budget, your income and expenditure, and work out what you can afford to pay towards existing debts. It is then worth assessing what is a priority and what is not a priority debt. Council tax, for example, is a priority debt, as is your energy bills and rent or mortgage, as the consequences of missing these payments can be more serious. Following that you should look to pay down the most interest-bearing debts first.
“If these steps aren’t enough to stay on top of your debts, don’t panic, you may benefit from seeking free and impartial debt advice. It’s important to note that seeking debt advice and exploring your options will not impact your credit score, it’s only if you take up a debt solution it will be recorded on your credit file.
“Remember changes to someone’s credit score are not permanent - in reality, if someone has fallen behind on payments it’s likely their credit file will already have been impacted, and finding a way forward through debt advice will be the best way to get back on track. You can always work on improving your credit score in the future as part of your journey to becoming debt free. At StepChange, we provide free, independent, and confidential advice through a fully online journey, and we also have advisors on hand to support where necessary.”
You can also get a Debt Relief Order, which could wipe out some of the debt you can’t afford after a set period. This sounds too good to be true, doesn’t it? Well that’s because it’s not an easy process, you must meet certain criteria – and will be monitored – and it’s highly likely that your ability to borrow will be affected as it stays on your credit file too.
You must apply through an official debt advisor. Once again, I cannot emphasise this more – these are NOT the firms that look official on Google searches. Here’s the list on GOV.UK. The debt advisor assesses your finances for free, assessing if you meet the eligibility criteria. These are:
- Owing less than £30,000 in total.
- Not having savings or valuable items worth more than £2,000 in total.
- Not owning a vehicle worth more than £2,000 at current market value.
- If not have enough money left at the end of the month to make your debt repayments.
- If you have lived or worked in England and Wales in the last 3 years.
- Not being currently bankrupt, having an interim order or an individual voluntary arrangement.
You can’t have previously had a DRO in the last six years too. For Scotland and Northern Ireland there’s separate debt advice on GOV.UK.
- Martyn James is a leading consumer rights campaigner, TV and radio broadcaster and journalist
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