Debt consolidation is the practice of taking out one large lump loan to pay off many other smaller loans; the effect of debt consolidation can be lower interest rates, fewer debtors, and ease of servicing one loan over many. To consolidate debt, you typically need something extremely valuable as collateral, such as a house. The collateral is seized if you can’t pay the consolidated loan. Credit card debt is the most common reason for debt consolidation, though many other debtors have differing reasons for wanting to consolidate their debt. In the US, the Department of Education is willing to consolidate student loans as well. Typically, debt consolidators are private.

Usually, in order to consolidate or settle debt, the debtor must have a lawyer, who may also be a debt consolidator. Though people can act as their own attorney, this is not advisable.The job of the debt consolidator is to take a monthly sum from the debtor, and to distribute it to the lenders. The debt consolidator typically asks for a large fee up front to pay for their services.

Frequently, debt consolidation can allow for the discounting of the total amount of money owed if the debtor is in danger of bankruptcy and the inability to pay off their debts whatsoever. In these situations, the debt consolidators purchase the debt at a lower price, in order to avoid getting nothing at all during bankruptcy. This is known as debt settlement. During debt settlement, debt consolidators often advise their clients to refrain from making any payments to their creditors, in order to scare them into a favorable debt settlement. While the morality of this is questionable, debt consolidators are very frequently able to negotiate for much more favorable terms for the debtor using this technique. The favorable terms come at a cost, however– not paying creditors can result in a substantial (up to 150 point) drop in credit rating, which means that the debtor will have a lot of trouble getting creditors to lend them money in the future.

The helpfulness of debt consolidation is the topic of much debate in the personal finance community. Competing studies have found that debt settlement helps debtors become debt-free within one year between 40% and 5% of the time. Clearly, this large range shows that debt consolidation is by no means a sure way out of being in the red.