FinWellness with Thembi – Debt consolidation vs debt administration
Over-indebtedness is defined as “the persistent difficulty, or impossibility, for a household to pay its bills or its debts”. In a country with one of the highest youth unemployment rates in the world, it would be irresponsible not to mention the dire situation that sees people turning to loan and credit facilities to provide for the bare necessities.
However, there are those who use these facilities persistently and irresponsibly in order to fund lifestyle items, not needs. No matter where you are on the spectrum, there are two solutions to consider: debt consolidation and debt administration.
Debt consolidation refers to taking out a new loan and using it immediately to pay off all outstanding debts. If you have many debts that you need to pay each month, each with its own interest rate and repayment terms, you may find it difficult to afford it and remember to pay them all.
By taking out a debt consolidation loan, you effectively eliminate all your individual debts and end up with a single monthly payment, with a single interest rate and a single repayment term.
After consolidation, your debt should be structured in such a way that you can easily afford the monthly repayments. The most important factors to consider when restructuring are the interest rate and the repayment term. The term of a consolidation loan tends to be longer to make monthly repayments more affordable. While that’s great in the short term, in the long run you’ll be paying a lot more for debt service. The same goes for the interest rate offered. If the consolidation loan offers higher interest than your current debts, it will cost you more to repay the loan. The rule of thumb of all debt agreements to remember is longer payment terms and higher interest means more money out of your pocket.
The problem with consolidation is that you can’t cure bad money management with more money. Just because you get money to solve a debt problem doesn’t mean you’ll automatically be better at handling a single loan. Another downside is that you will always have access to new credit, which means you can open a store account or take out another loan.
Debt administration, also known as debt counselling, is a legal process that helps people who are over-indebted restructure their finances over a longer period of time.
This happens through a court process, where you voluntarily ask the court to be taken into administration. This is an option of last resort that should not be taken lightly.
During this process, you are assigned a debt administrator who will contact your creditors on your behalf and act as an intermediary between you and them. The administrator will renegotiate your agreements with the aim of reducing interest rates and obtaining smaller repayment amounts. The monthly payments will no longer be paid directly to the creditors, but to the administrator through an attachment order which will be issued to collect the money directly from your salary. The administrator will then use your money to pay your creditors.
The advantage of debt administration is that your creditors will no longer be able to sue you or contact you directly.
On the other hand, you will not be allowed to access new credit until the debt administration process is completed and your debt is settled. There will also be a note on your credit report indicating that you are under administration of debt so that creditors know not to extend credit or loans to you. However, this will ultimately benefit you as you will no longer be tempted to take on new debt, allowing you to focus on settling the amount you already owe.
* Thembi Kandanga is a financial planner and coach. She runs her own financial coaching business (FinWellness Solutions) and creates personal finance content on YouTube, Instagram and Twitter.