Debt consolidation could be the slippery road to ruin for many

Debt is threatening to run out of control in the UK. Figures from the British Bankers Association show consumer credit, in credit card balances and unsecured personal loans, rose by £700m in May alone. And this week the Office of Fair Trading started investigating debt consolidators, who bring all a customer's debts under one umbrella, at a price.

Debt is threatening to run out of control in the UK. Figures from the British Bankers Association show consumer credit, in credit card balances and unsecured personal loans, rose by £700m in May alone. And this week the Office of Fair Trading started investigating debt consolidators, who bring all a customer's debts under one umbrella, at a price.

Unsurprisingly, the idea of debt consolidation has been attractive to many borrowers. By consolidating their debts at a competitive interest rate and spreading the repayments over a longer period, the argument goes, borrowers can reduce their monthly payments and regain control of their finances.

It may be transferring credit and store card balances on a single, low-interest card, or taking an unsecured personal loan to clear other balances. Or a homeowner could remortgage or withdraw equity from the home with the existing lender: BBA figures show the value of remortgages increased by more than 60 per cent in the year to April.

You do not have to spend much time watching daytime television, browsing through the TV guides or sitting on the London Underground, to find yourself eyeballing advertisements showing harassed-looking individuals whose debt problems are solved instantly and painlessly with one phone call.

The consolidation loans they promote are usually second mortgages from a personal finance company, secured against the borrower's property. The second-mortgage sector has expanded even faster than the broader consumer credit market, and the Office of Fair Trading estimates as much as 60 per cent of the second-mortgage market may be arranged to consolidate debt.

The OFT says the trouble is that vulnerable consumers may not understand the overall cost, length or nature of the debt they are taking on. "We're concerned that the advertising and marketing used, targeting less financially aware consumers, doesn't make clear how much they'll really be paying," an OFT spokesman said. If individuals have many debts, they often also have previous credit problems which make them reluctant to approach their existing high street lender, and all the more vulnerable to the allure of such marketing.

Although debt-consolidation schemes, such as Ocean Finance, are neatly packaged, enabling borrowers to reduce monthly outgoings and preserve their credit ratings if payments are maintained, they can have significant drawbacks. First, because most are secured against property, your home is at risk of repossession if you do not keep up payments. Second, they are inflexible, so you could find yourself in a difficult position if interest rates rise, pushing monthly payments up.

Debt-consolidation interest rates (APRs) start from about 7.9 per cent, and borrowers with a poor credit record could pay three times that, so they are not as cheap as a straightforward remortgage from a high street lender. Crucially, monthly payments are brought down by simply extending the loan period, so although headline interest rates may be competitive compared with those of many other forms of credit, the overall cost can be very high because the debt runs longer. And finally, the borrower may have to take out expensive insurance policies, pushing the cost up further.

At Payplan, a free debt advice and management service for borrowers in difficulties, the managing director, John Fairhurst, said: "About half of the clients who come to us have already been down the consolidation route, and it hasn't worked. In some cases, they haven't been able to consolidate the full amount they owe. Some people consolidate because they're prepared to pay later for their present lifestyle, and that's fine. But those who come to us are struggling to meet their contractual payments and need a sustainable repayment plan."

Free debt management assistance is also available from organisations such as the Consumer Credit Counselling Service or local Citizens' Advice Bureaux. But other debt management companies levy a monthly charge on clients, which makes the problem worse.

And people wishing to borrow money for any reason - and debt consolidation is among the most common - can get free independent guidance via the internet, phone and high street branches, and through a new personal loan broking service from The MarketPlace, Bradford & Bingley's IFA arm. That may mean remortgaging, or borrowing from the most among the 22 leading lenders on The MarketPlace panel.

David Bitner, the head of product operations, says: "The personal loan market as it stands is difficult for customers to see through; best-buy tables for one loan value don't apply for a different-sized loan, so shopping around is tough. We are trying to introduce choice and transparency into the market."

How to regain control of your finances

* Are you eligible for social security benefits? The most common to go unclaimed are working tax credit and child tax credit;

* Check with your tax office that you have the right tax code: you may be able to claim relief on work-related expenses;

* Keep your own accounts and always check your bank statement ;

* Draw up a monthly budget to show everything you spend, including often-overlooked expenses such as water rates and car maintenance;

* Include provision in your budget for irregular bills and expenses;

* Use direct debits which may give you small discounts.

* Shop around rigorously for annual expenses such as car and household insurance;

* Educate your family about managing money. It could save you much heartache;

* Start a regular savings plan, no matter how small the amount, as a cushion against unforeseen financial troubles or expenses.

* Seek help immediately if debts start to build up. Free advice is available (see information box).

Information

* Consumer Credit Counselling Service

0800 138 1111

www.cccs.co.uk

* The National Debtline

0808 808 4000 www.nationaldebtline.co.uk

* PayPlan

0800 085 4298 www.payplan.com

* The MarketPlace

0800 731 3232 www.marketplace.co.uk

* National Association of Citizens Advice Bureaux.

Check your phone book for your local office www.nacab.org.uk