Debt Consolidation Strategies and Cautions

July 7, 2010 - PRLog -- Debt consolidation – where people “fold” personal debt, such as credit card balances, into their home loan so they can pay significantly reduced interest rates – is just another area where the banks have tightened up their assessment criteria in the past 12 to 18 months as a result of the GFC, according to Smartline Personal Mortgage Advisers.

“It’s not unusual for us to see people with $30,000 to $80,000 in credit card and store account debt,” Smartline Managing Director Chris Acret said.

“This is often the case with those on higher incomes – they regularly receive letters from their finance providers offering higher credit limits and they keep on taking up these offers and then spending up to these new limits.

“This might be in addition to personal loans, car loans, interest-free purchases or rental type arrangements – the debt can quickly add up and has to be paid at interest rates of around 20 per cent per annum.

“A total of $30,000 of credit card debt requires monthly repayments of at least $900 – a significant amount of money in any household budget.”

For those people with relatively strong levels of equity in their home who find servicing these types of debt is placing a major strain on their household cash flow, or perhaps limiting other opportunities, such as investing, there is the scope to consider consolidating these types of debt into a home loan.

That same $30,000 debt at a standard home loan rate of 6.5 per cent per annum requires payments of around $190 per month – a saving of about $710 per month.

The debt can be consolidated either through a “top up” of the existing home loan or a separate home loan can be taken out.

However, debt consolidation is best suited to those with relatively sound levels of equity in their home, that is, at least 20 per cent. Most banks don’t like debt consolidation if adding the additional balances is going to increase your loan to more than 80 per cent of the home’s value.

The GFC has also seen banks limit the number of debts that can be consolidated. While two years ago a borrower would be allowed to consolidate up to five debts, now most won’t allow any more than two.

“This is because these types of debts are seen as being used to fund lifestyle purchases and these generally reduce a borrower’s net assets and are frowned upon by the banks in this current environment,” Mr Acret said.

“If you do consolidate, you still need to be committed to paying off the debt and not allowing yourself to get into a similar situation again in the future.

“Otherwise, if you simply add $30,000 and pay this over a 20 to 30 year home loan term, you will end up paying a considerable amount of interest and won’t be achieving the full benefit of the consolidation.

“And if you were to go through this process on a regular basis, you would find that you are using your increasing home equity to fund your lifestyle and wouldn’t end up increasing yours assets and wealth over time.

“You need to commit to ensuring that you never allow yourself to get back into that position again. Close all but one of the credit cards and reduce the limit on the remaining card to something like $2000 which is there for emergencies but can be paid off relatively easily.”

To speak with a Smartline Mortgage Broker about a debt consolidation strategy or simply to get independent mortgage advice click here: http://www.smartline.com.au/our-service/your-personal-mor...

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About Smartline: Established in 1999, Smartline is a multi award winning franchised mortgage broking group, having built a unique reputation for advice and client care.

The group’s 200 franchise offices have assisted over 100,000 Australians arrange their home finance to date. 85% of Smartline's business comes from a personal recommendation. As part of every loan Smartline arranges, the company donates $10 to charity.

Smartline’s Managing Director is Mr Chris Acret and its Executive Director is Mr Joe Sirianni.