What are the Different Types of Consumer Debt

As the name implies, consumer debt refers to the entire amount of debt carried by consumers, as opposed to governments or enterprises. It includes all debits that exist as a result of purchasing items for personal or household consumption. Credit card debt, payday loans, student loans, and other consumer financing are the most frequent types of consumer debt. All these types of loans and debts have different payment schedules, tax ramifications, and credit score effects. In the rest of this article, we’ll go over the different types of consumer debt and the implications they can have on your finances. 

Credit Card Debt

Out of all different types of consumer debt, credit card debt is probably the worst. First, credit cards are widely available to anyone, making credit card debt the most common type of debt in America. They also have relatively high interest rates compared to other debts. And finally, most credit cards carry compounding interest. That means you’ll be paying interest on the interest you’ve previously paid. This can quickly snowball into a difficult-to-exit debt spiral, which is why it’s critical to pay off credit cards in full and on time each month. Moreover, if you are planning to buy a house, you should definitely pay off your credit card debt before applying for a mortgage. Otherwise, your mortgage might not be approved.

Mortgage Debt

If you want to buy a house in America, you will most likely have to take out a mortgage. That’s probably why mortgage debt makes up the most significant percentage of all consumer debt. They are installment loans, which means you pay them back over a certain period in a set number of installments. They are also secured loans, which means the house you acquired with the loan serves as security for the debt. If you stop paying, the lender can start the foreclosure process. That usually involves seizing and selling the property to recoup its losses.

However, it is widely considered that mortgages provide the most financial benefits to consumers. Paying off your mortgage loans every month can help you gradually create equity in your home, and the asset may eventually be worth far more than what you paid for it. Moreover, a mortgage can frequently enhance your credit score if you make your payments on time. That way, you demonstrate that you are a responsible borrower. 

Downsizing Your Home to Reduce Debt

Homeowners who are swimming in debt often opt for downsizing as a means to reduce their debt. If you are having financial troubles, maybe you should see if downsizing is an option for you. Downsizing a property entails exchanging your current house for a more affordable one. You could either swap your home for a one with smaller square footage and, therefore, cheaper bills and maintenance costs. Or, you could relocate to a different, more affordable neighborhood. When done right, this could save you a ton of money or significantly reduce your debts.

Student Loan Debt

Student loan debt is another type of debt with potential financial benefits. Currently, student loan debt has the fastest-growing share of all consumer debt in America. It’s more flexible than other types of loans, but their interest rates can vary.

Because student loans are frequently among the first debts taken on by borrowers, they can be a crucial part of establishing a solid credit history. Paying your student loans on time each month can significantly improve your credit scores, just like with other types of consumer debt.

If you’re just stepping into the world of higher education, there are still ways you can minimize your student debt at the start. By taking time to research and apply for different types of scholarships, you can save yourself a lot of money in the future.

Auto Loan Debt

Auto loans, as the name suggests, can be used to buy new or secondhand vehicles. Along with credit card loans, these types of consumer debt fall into the “bad debt” category. An auto loan, like a mortgage, is a secured installment loan. It is paid in a predetermined number of installments over a predetermined period. If you don’t make your payments, the lender can take your car and sell it to recoup its losses.

Many people think buying a new car is impossible, especially if they’re trying to get out of debt. That’s why they opt for buying a secondhand car. While it may seem like a good idea at first glance, this can have harmful financial consequences for the borrower. If it’s not thought out and done correctly, a borrower can find himself in a difficult situation. For example, a lot of the time, borrowers who purchase older used cars often end up owing more on their loan than the vehicle is worth. To avoid this problem, be careful not to take out a loan with an extended repayment period. 

Payday Loans

Payday loans should be avoided at all costs. This sort of loan is frequently the most harmful since it entices those who are already in a lot of debt and are vulnerable. Payday loans are a sort of short-term credit available to people who need money quickly. In most cases, these loans are for tiny sums of money and don’t require credit checks. However, they come at a high price for the buyer because they have substantial interest rates. Moreover, many payday lenders also charge late fees or additional fees to roll over the loan for another month.

Final Thoughts

If you’re thinking of applying for a loan, make sure you do your research. With consumer debt at an all-time high, it’s more vital than ever to analyze all the different types of consumer debt you can choose from. Think about your overall financial goals and consider varying tax implications and interest rates of all debt types. However, the most important thing when it comes to debt is to keep up with your monthly payments. By never missing a payment, you will avoid debt collectors while significantly improving your credit scores.

Dorothy Carter

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Is debt settlement a good option? What are its pitfalls and alternatives?

Debt settlement is a viable option when you are struggling to repay huge balances on your credit cards and personal loans. It can help solve your debt problems fast. However, you need to be aware of certain pitfalls before resorting to this option.

Here’s how debt settlement works, its pitfalls, and the alternatives to this debt relief option.

Debt settlement – How it works

Debt settlement or debt negotiation is a debt relief option through which you get rid of your dues by paying less than what you owe to your creditors. You can opt for professional help or a DIY settlement option.

If you opt to settle your debts yourself, you will have to negotiate with your creditors to reduce the outstanding debt amount.

If you use a debt settlement company, professional debt negotiators will try to convince your creditors to reduce the outstanding balance as much as possible. They will also analyze your financial situation and ask you to make an affordable payment to the settlement company every month. Once you accumulate a substantial amount, the company will use the saved amount to pay a lump sum to a creditor, and you will get rid of that debt. Likewise, you repay debt one after another. However, when using professional help, hiring a good debt settlement company is essential.

What are the risks of debt settlement?

There are certain risks associated with debt settlement. You need to be aware of these before resorting to this debt help option.

Debt amount can increase

A debt settlement company can ask you to stop making payments to your creditors for the time being. However, while doing so, you can incur additional charges and penalties that will increase your outstanding debt balance. It may add up to hundreds or thousands of dollars to the balance.

Credit score can reduce

When you can’t repay your credit card debt and the outstanding balance on your personal loans, you already become delinquent on your accounts. You will also stop making payments to your creditors and offer a lump sum once you save the required amount. The delinquent accounts and settled accounts will remain on your credit reports for seven years. As a result, it will affect your credit score negatively. However, its effect will reduce with time once you start adding positive items to your credit reports.

Forgiven debt can be taxable

You save a significant amount by opting for debt settlement. However, you may have to pay tax on the forgiven debt amount. This is because the IRS (Internal Revenue Service) considers forgiven debt as the debtor’s income. You should consult a tax professional to inquire about additional tax obligations, if any.

Professional fee

You will have to pay a fee to the settlement company, along with paying back the debt balance. However, make sure that you don’t pay any upfront fee before they negotiate with your creditors. A debt settlement company may charge about 25% of the eliminated debt amount. You could save this amount if you settle yourself. But, again, a settlement company can negotiate with your creditors in a better way.

You can avoid certain pitfalls by opting for other debt relief measures beforehand.

What are the alternatives to debt settlement?

You can opt for these options as an alternative to debt settlement.

Consolidate debts through professional help

If handling multiple debts is your primary concern, then you can enroll in a consolidation program. By doing so, you can make single monthly payments towards paying off your multiple bills. Therefore, it becomes easier to manage your debts. A consolidation company can negotiate with your creditors to reduce the interest rates on your accounts. You have to pay an agreed-upon monthly amount to the consolidation company, who will distribute the payments to your creditors on your behalf.

Opt for a balance transfer

This option makes it easier since you don’t have to make interest payments for a few months if you can take out a 0% balance transfer card. Even if not a 0% card, a card with much lower interest can also help you repay debts faster. You can shift your debt to such a card and repay the balance within the introductory period of the balance transfer card. Usually, the interest-free period lasts for as long as 18 months.

Take out a consolidation loan

A consolidation loan is like a personal loan you can use to repay your existing balances. Then, you will make monthly payments to repay your new loan. The interest rate on a personal loan is relatively lower than that of credit cards. If your credit score is good, you may be able to take out a consolidation loan at reasonable terms and conditions.

File for bankruptcy

Though it is considered the last resort to get rid of debts, it can help give you a fresh start. Most of your unsecured debts will be discharged through bankruptcy. Depending on whether you file Chapter 7 or Chapter 13 bankruptcy, it will take four months to five years to get discharged from debts.

It depends on you whether you can reduce the adverse effects of debt settlement and choose this option to get rid of your debts. However, while opting for debt settlement, make sure you hire a reliable and experienced debt settlement company. Also, while opting for settlement, make sure you manage your finances such that you can make the payments on time and get rid of debts quickly.

About the Author: Lyle Solomon has considerable litigation experience as well as substantial hands-on knowledge and expertise in legal analysis and writing. Since 2003, he has been a member of the State Bar of California. In 1998, he graduated from the University of the Pacific’s McGeorge School of Law in Sacramento, California, and now serves as a principal attorney for the Oak View Law Group in California.

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