Debt consolidation case study

Debt consolidation has the immediate benefit of reducing monthly outgoings. While this may provide a welcome short-term relief, it may have other adverse consequences. Whilst savings are normally achieved with a reduced interest rate, they usually also come about by extending the term of the loan. Interest paid over a longer term could result in more interest being paid. However, if managed in a correct manner, there are significant benefits to debt consolidation.

Case Study
I have a client who bought his first home 18 months ago. His parents helped with the 20% deposit and he purchased his home for $225,000 with a loan of $180,000. At the time, he had a credit card debt which was causing him a little pain, but with a budget, he figured that he would be able to pay it out within a year.

Unfortunately, a year later, his credit card debt had increased despite a promotion and a pay rise. He had underestimated the costs of living away from his parents (like many first home buyers who go through these growing pains) and he now required $600 per month to meet the minimum repayments. This was beyond his ability to pay and he felt that his only alternative was to incur further debt to meet these payments.

The credit card company was offering him more credit to solve his problems. He was also considering moving his credit card debt across to a '0% interest' card to release his stress for 6 months - a temporary solution in most cases.

He felt that if he had access to $10,000, he'd be able to eliminate his credit card debt and be able to pay other looming large bills.

His existing home loan was on a fixed rate and no cash savings could be achieved as the interest rate was 1.5% lower than the current discounted variable rates (lucky he fixed).

To assist, our mortgage brokers arranged a separate variable facility of $10,000 with minimum fuss. This was achieved at a significantly lower interest rate than the credit card. Rather than match the 25 year loan term of his fixed rate home loan, we set up this facility with a 15 year loan term.

A 25 year loan term would have saved him $525 per month. However, reducing the loan term to 15 years, saving $500 per month, created a forced savings program to reduce his debt. We also convinced him to include an additional $100 over the required minimum repayment amount (via direct debit).

As part of the transaction, the bank paid out his credit cards and closed the accounts. We also set up a visa debit card for him to use for credit card related purchases, resulting in spending money he's earned rather than borrowed. He also has some extra cash after the repayment of the credit cards and extra payments in the loan account which can be redrawn for emergencies if required.

The refinancing was important to overcome his financial predicament. However, more importantly, it was essential to ensure that the new loan was applied over the shortest possible period in order to reduce the total interest paid over the term of the loan.

The best part to this story was his reaction to the valuation of his house. 18 months later, it was worth $80,000 more than he had paid for it. His property had made more money than his job during that time. He is now planning to use his equity to purchase investment properties in the future.

To find out more about debt consolidation or to refinance your home loan, speak to one of our mortgage brokers today on 1300 55 10 45.