How do people end up with monthly debt payments that are higher than their ability to pay? Usually because they took on too much debt or their income is reduced or a combination of both. Faced with this situation, the first rule is to keep a level head and examine your options.

For most people, bankruptcy should be a last resort and it may or may not adequately alleviate the debt situation. Simply not paying the bills could result in legal action or confrontations with creditors and collection agencies.

Perhaps the best move is to find a way to bring debt payments more in line with the funds available for repayment. Debt consolidation is one way to do this. The basic plan is to combine all debts into one and lower the monthly payment amount so that's it more manageable.

Ways to Consolidate Debt

There are a couple of ways debt consolidation can work. If the situation hasn't progressed far enough to impact the credit rating, and if the credit rating is high enough, it may be possible to get a loan and use the proceeds to pay off existing debt. This is an especially good option if the new loan has a lower interest rate than the combined original debt, which is likely to include very high interest rates on credit cards.

More often, by the time someone becomes aware of their inability to make monthly debt payments., their credit rating has already been severely impacted. This will likely make it difficult to get a loan. At best, people in this situation may qualify for a high interest loan. Although it may make their payments more manageable, it could be a costly solution in the long run.

The other way to consolidate debt is to work with a company that arranges payments with creditors and, in some cases, negotiates lower payments with a client's creditors. These debt-consolidation companies then collect a monthly payment from their clients and distribute it across the monthly debts as negotiated with the creditors.

Some companies provide this service for free to clients because creditors pay them in order to keep regular paying customers on their books. Others charge a monthly fee, which is added to the client's monthly payment.

Risks with Debt Consolidators

Not all debt consolidation services truly negotiate with lenders. Instead, some give creditors an ultimatum: take smaller payments from the client or get none at all. Lender reaction varies.

Lenders who calculate that accepting the lower payments is better financially than forcing bankruptcy or sending a collection agency may agree to the terms. Other lenders may refuse. If the debt consolidator still goes ahead and sends lower payments, then the client is probably not meeting their monthly payment obligation to the creditor. Creditors could respond by impacting the client's credit and/or initiating legal procedures.

Know Your Lender

Debt consolidation does not relieve someone of knowing their status with each creditor and what actions, if any, a creditor might take. Put another way, debt consolidation does not mean a creditor can't or won't use a collection agency or petition a court for judgment against the borrower.