5 Tips for Debt Consolidation and How It Affects Your Credit Score

by Paul Browne
does-debt-consolidation-affect-your-credit-score

If you're dealing with financial problems and are struggling to pay off your debts, debt consolidation can help. You can lower your monthly payments and get out of your debt hole earlier.

Does Debt Consolidation Affect Your Credit Score?

While debt consolidation can help you with mounting debt, it may also have some adverse short-term effects on your credit. It's essential to explore why those effects happen so you can be informed when consolidating your debt.

So, let's jump right in.

What is Debt Consolidation? 

Debt consolidation is when you combine your multiple high-interest loans into one loan. Then, you pay everything off with a lower interest rate and a favorable payment structure.

This process allows you to make a single monthly payment instead of juggling multiple payments at once. As you can imagine, this helps many people better manage to repay their debt, saves time and money.

In short, debt consolidation can help pay off your debt and improve your credit score in the long run.

1. How and Why Debt Consolidation Affects Your Credit Score?

As we mentioned, consolidating debt will have a short-term negative effect on your credit. But, here's the how and why:

    • The first impact on your credit happens before you open the loan or balance-transfer credit card account. Your application will cause your lender to make a hard inquiry on your credit report. The hard inquiry will likely decrease your credit score by a few points.

    • Upon securing the new loan or credit card account, you'll likely have a drop in your credit score. Creditors typically like to see debts you've paid down on time over time, which shows you manage debt well. New debt raises your risk because, without a payment history, all it can be is added risk.

    • The new account lowers the overall age of your debts, which can result in another slight drop. New accounts skew the age of your overall debt profile lower. Because Creditors like debt profiles with debt maturity, this may ding your credit score.

2. Can Debt Consolidation Help Your Credit Score?


Evaluating the benefit of debt consolidation to your credit score is best done by answering this question. How does it help you build your credit score, and what damages to your credit does it help you avoid?

Build Your Credit Score:
    • You will steadily build your credit score by aging your debt well. If you pay on time consistently, creditors and lenders will see you manage risk well. As this debt ages, you look better and better. As you might imagine, this benefit is a longer-term benefit.

    • If either one of these avenues helps you consolidate revolving credit accounts, you will lower your credit utilization ratio. A better ratio here can give you a positive initial bump in your credit score.

Avoid Further Damage to Your Credit:
    • Debt management itself is a bit of a liability. Managing multiple high-interest debts could result in a missed payment or a default due to being overburdened by high-interest payments. Debt consolidation helps you avoid debt management slip-ups by resolving your payments down to one convenient monthly payment.

3. How Can You Consolidate Your Debts?

There are two standard methods you can use for debt consolidation including:

Debt consolidation loan

A debt consolidation loan involves refinancing multiple high-interest debts into a single low-interest loan.

    • The main benefit of using a consolidation loan is that you can reduce the number of monthly payments you're making. It also lowers the interest on your monthly payments and helps you find a more favorable payment structure.

    • The downside to this plan is a short-term hit to your credit score, which we'll cover in greater detail below.

This approach is available for individuals with various credit scores ranging around 690 and below, generally speaking.

Balance-Transfer Credit Card

A balance transfer credit card can consolidate your debts and is helpful due to available 0% interest promo periods.

    •  The main benefit of this approach is the 0% interest period and having a single monthly payment instead of many.

    • The downside to this plan is subsequent high-interest rates. If you don't pay off the transferred debt in the promotional period, you pay variable interest rates ranging from 12-25%. Also, this promotional period is a smaller pay-down window than with a debt consolidation loan, for example.

This approach is available for individuals with various credit scores ranging around 690 and above, generally speaking.

4. Best Practices for a Debt Consolidation Loan

The following are some of the ways you can ensure success when using a debt consolidation loan:

    • The first thing is to make sure you make payments on time
    • Try as much as possible not to take on more debts
    • Set up a strict budget for monthly expenses
    • Come up with milestone targets for your payment progress
    • Avoid using your credit card during this time as much as possible

If done responsibly and appropriately, debt consolidation can help you pay off your multiple high-interest debts. It can also get you out of the debt hole sooner while improving your credit score in the long term.

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5 Tips for Debt Consolidation and How It Affects Your Credit Score

Does debt consolidation affect your credit score? It does, but there's more to this story. We'll tell you why and how to consolidate debt effectively.

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Author Bio

Paul Browne

Paul is about everything digital marketing when he isn't galavanting as a pirate at the Texas Renaissance Festival, going to rattlesnake roundups or accidentally saying yes to Ironman triathlons.

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