Reckless Christmas spending will be responsible for a third of all bankruptcies in the first quarter of this year, according to estimates last week by accountants Grant Thornton.
But while 28,000 people will declare themselves bankrupt or take out an individual voluntary arrangement (IVA) during the next three months, others will listen to the January refrain of banks, building societies and other lenders to 'consolidate now!' This involves switching all outstanding debts with different lenders to one new - cheaper - unsecured personal loan.
The aim of debt consolidation is to achieve a single lower monthly repayment by lengthening the time over which the debt is repaid or, where existing debts carry a high rate of interest, by simply being at a competitive enough rate to cut repayments without stretching the loan period.
It's a compelling sales pitch at this time of year and is proving popular with borrowers: some three million now have such a consolidation loan, says price comparison site uSwitch.
Research from the website shows that the average UK household debt of £4,280 (made up of £1,204 on a credit card with an interest rate of 16.1 per cent, £2,683 on a personal loan at 14.4 per cent, and £393 on an overdraft at 12 per cent) can be cut over three years by £605 by consolidating all these debts to a 'best buy' unsecured loan at 6.8 per cent. Loans at this rate are available from Barclaycard, Tesco and Halifax.
However, while consolidation may help tens of thousands of families, it is not an 'easy way out'. 'Our worry is that [with consolidation] people are trying to borrow their way out of debt - but it's not a one-size-fits-all solution,' warns Rosalind Pearson at Citizens Advice.
While it's all very well chopping the size of your monthly repayments, she says, it is only a short-term fix unless you address your longer-term indebtedness. 'People need to work out if consolidation is right for them, or whether they're really just shifting the sums that they owe around in a debt spiral,' she says. In 2007, the CAB figures recorded 1.7 million new enquiries about debt from the public, up by nearly a fifth on the year before.
But as well as fears that shoppers are chasing cheaper monthly repayments without sorting out their debt, there is concern about the cost of consolidation. Uswitch's calculations of a £605 saving don't take into account the cost of a fee for repaying the older personal loan early in order to switch the debt to the consolidation loan. Rules monitored by the Office of Fair Trading allow a lender to charge a month's interest for paying off an unsecured loan early; the earlier into repayment, the heftier the penalty since, in the first months, interest charges tend to make up more of the monthly repayment.
So, depending on the rate of interest, size of loan and how far into repayment the borrower is, the majority of the consolidation saving could be wiped out. Not all banks and building societies levy exit fees, though; those that don't include Yorkshire building society, Egg, Goldfish and Northern Rock.
And, although consolidation loans give lower monthly repayments, borrowers often end up paying more overall because the debt is usually stretched over a longer period.
It's also worth noting that eligibility for a competitive consolidation loan requires a decent credit record. And both the CAB and the Consumer Credit Counselling Service (CCCS) tell borrowers to be especially aware of another type of consolidation loan: those that are secured against property. 'The loan interest rates are usually higher [than regular unsecured loans] and there's a much greater risk of losing your house if you can't keep up repayments,' says CCCS spokesman James Ketchell. |
