How to manage that mountain of debt

When people are struggling to keep up with repayments on bank loans, credit cards, vehicle finances or store cards, some may go as far as finding relief in a consolidation loan or apply for debt counselling. But there is confusion when it comes to what this means.

Debt consolidation

This is the process of using one big loan to pay off smaller accounts. This may seem like a reasonable option because it means only one combined debt needs to be paid and it frees up a little more disposable income.

However, debt consolidation is not without its pitfalls, and if you're undisciplined it can go very wrong, very quickly. The tendency is to fall back into the credit trap once a consumer realises that they can "manage" their debt. Lower payments and a long repayment period seem like a good idea, but the door to taking on more credit is left wide open.

Some companies charge you a fixed interest rate which is determined according to your credit score, and pay off creditors on your behalf.

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Other financial institutions may offer you a personal loan and the onus is on you to make the necessary payments to your creditors.

For example, a R150,000 loan with a 10% annual interest rate (compounded monthly) over a five-year period will cost R246796.34.

Working out easier payment terms with creditors might end up being simpler and cheaper.

Debt counselling or debt review

The debt review or debt counselling process can only be undertaken if approved via a legal process as laid out in section 86 of the National Credit Act. You need to be fully aware of the implications. You're not allowed to take on any credit while under debt review, and your name is flagged with the credit bureau.

The first step is approaching a debt counsellor to assess your debt situation. You can find a list of accredited debt counsellors on the National Credit Regulator website.

Your debt counsellor has a month to see whether your situation warrants undergoing debt review. They'll need to be sure that you are unable to handle your debt and they have to look into whether any of your creditors were reckless when extending credit to you.

While awaiting feedback, your debt counsellor will let your creditors and the credit bureau know you are being assessed. They'll set up an interim payment plan with a payment distribution agency. No legal action may be instituted against you during the 60-day period from the date of your application pending assessment.

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Once your counsellor determines that you are indeed indebted, they'll let your creditors and the credit bureau know you are undergoing debt counselling. This is where you lose control over your credit.

Your counsellor will help you draw up a budget to determine how much you have to pay off your outstanding debt. You will then negotiate with each creditor and settle on a monthly agreement. Creditors can reject the proposed repayment plan, so be prepared to negotiate.

Skipping a payment while under review will automatically terminate the process, and open you to legal action.

The debt review process may include once-off costs such as a R50 application fee and a restructuring fee calculated according to the size of the first instalment (up to a maximum of R6000 excluding VAT).

From the second month after the restructuring fee has been paid, a monthly after-care fee of 5% of the instalment (up to R300 excluding VAT) is payable to the debt counsellor for the first 24 months, thereafter reduced to 3% until the debt is fully paid. Should you wish to withdraw from the review process you will be charged a fee equivalent to 75% of the restructuring fee.

Email tsamelad@sundaytimes.co.za or find her on Twitter @DeeOnMoneyZA