Debt consolidation is a term widely used in the credit world. You may have heard of it but are not quite sure what it means. There are quite a few forms of debt consolidation and perhaps a few misconceptions about how they work. To consolidate means to combine a number of things into one, single thing.

When we talk about debt consolidation we can refer to the consolidation of two things. Firstly, you can consolidate your debts into one debt and secondly you can consolidate your monthly payments into one payment. These might seem similar however, they are structured differently.

1. Consolidation Loan

A consolidation loan is a loan that is used to pay off all or a portion of your debts which get replaced with a larger loan. Consolidation loans often reduce the monthly payment because they are spread over a longer period. E.g. Becky has three loans outstanding, one for R15,000, one for R10,000 and one for R5,000. Becky wants to pay off the two larger one’s using a consolidation loan. She would get a loan for R25,000 and use the money to settle the larger debts and be left with just the one large loan of R25,000 and smaller loan of R5,000.

Consolidation loans are good for consumers who have a good credit rating and are looking for a lower monthly debt repayment. To qualify for a consolidation loan, your credit score needs to be high, you cannot be in more than two or three months arrears on any accounts and you need to have the affordability to pay back the loan. You also cannot be blacklisted.

Benefits of consolidation loans:

• One monthly payment
• Lower monthly payment (if longer term or you have mostly short term loans – less than 12 months)

Qualifying criteria for consolidation loans

• High credit score
• Little to no arrears on current accounts
• Affordability
• High Interest (25%  – 28%)

2. Debt Counselling

Debt counselling is a process whereby a debt counsellor formally negotiates to reduce monthly instalments and interest rates by spreading your current debt over a longer period. The consumer will still have all of the current debt; however, one payment is made towards the process and that gets split between all of the credit providers based on the negotiations done between the debt counsellor and the credit providers.

E.g. Jane has five different types of credit and is supposed to pay R13,000 each month towards all of her credit providers. According to her budget, she can only afford R7,500 per month. Her debt counsellor will negotiate with all of her credit providers to extend the payment terms and reduce interest rates until her new instalment matches her affordability of R7,500 per month.

If a consumer is over-indebted and struggling to manage their current debt repayments, debt counselling would be a good option for them.

Benefits of debt counselling

• One monthly payment
• Lower monthly payment
• Lower interest rates and fees
• Legal protection from credit providers
• One simple payment
• Become debt free

Qualifying criteria for debt counselling

• Over-indebted
• Any credit score

An easy way to determine which solution you would qualify for is to ask yourself the question. Am I running out of money at the end of each month? If no, then a consolidation loan might work for you. If yes, then debt counselling is probably the right option for you.

It is best to speak to a debt counsellor, get a financial assessment done and find out which solution you need. They will give you impartial advice and run you through your options. It is better to seek help sooner rather than later, especially when it comes to your debt.