Debt consolidation is one of the common repayment strategies you can use if you find yourself facing a pile of debt. Not only can you save on interest payments, but debt consolidation can make managing payments across multiple accounts much easier. However, not many people realize that it may affect your credit score – for better or for worse.
So how bad is debt consolidation for your credit?
In this article, we’ll answer the one burning question on most people’s minds: is credit consolidation bad? And if so, how does debt consolidation hurt your credit score?
How Does Debt Consolidation Affect Your Credit?
There are several ways to consolidate debt, each with varying effects on your credit score:
Consolidating with a personal loan
A personal loan can have a positive effect on your credit score because moving your credit card debt to a loan program lowers your credit utilization. So, does consolidation hurt your credit when you’re using a personal loan? Generally, the answer is no.
On the flip side, personal loans may have detrimental effects on your credit if you don’t properly use them. How does debt consolidation hurt your credit score when using a personal loan? Well, if you’re unable to pay the monthly payments, then you risk defaulting and lowering your credit score.
Consolidating with a balance transfer card
Using a balance transfer card can negatively affect your credit score by raising your credit utilization. You also risk higher interest rates if you don’t pay off your debt before the sign-up offer runs out.
Credit counselors and debt management plans
Talking to a credit counselor will not directly affect your credit score. However, some debt management plans they suggest might.
Ways to Consolidate Your Debt
Now that we’ve tackled the question of “do debt consolidation loans hurt your credit?”, let’s delve deeper into the different consolidation methods.
Balance transfer credit cards
A balance transfer card is a special type of credit card that charges zero or low interest rates for a period of time after you’ve transferred your debt to it. These cards give you a chance to chip away a big chunk off your debt without worrying about interest rates.
However, once that introductory period is over, you might be subjected to even higher rates. So the key to using a balance transfer card? Pay off as much as you can during that “no interest” window.
Will consolidating hurt my credit with a balance transfer card? Possibly, if you can’t handle the higher interest rates after the introductory period.
Getting a personal loan as a debt consolidation tool works best if you can get one with a much lower interest rate than the average interest rate of your other debts. You’ll be able to save on interest charges, lowering your overall debt considerably.
Retirement account loans
A retirement loan account is similar to a personal loan for debt consolidation, only in this instance, you’re taking it from your retirement funds. This is generally not recommended as you’ll be subject to taxes and penalties if you can’t pay it back.
Home equity loan
A home equity loan is a debt consolidation loan that uses your house as collateral. With this secured loan, you can enjoy lower interest rates so you can pay off your debt faster. However, home equity loans come with considerable risk. If you’re unable to repay, you can lose your house as well.
Why Consolidate Your Debts?
So with the risks and downsides, is debt consolidation bad for your credit? Not necessarily, and there can be benefits:
The two most significant benefits are savings and convenience. Some methods, like a balance transfer card, can drastically lower your overall debt by reducing the interest rate so you can pay off your loan faster.
Convenience might be a secondary benefit, but it shouldn’t be underestimated. Simplifying the repayment process means there’s a higher chance you’ll stick with your commitments. You’ll also spend less time managing your debt and more time earning income or enjoying your life.
The only time you need to worry about questions like, “does debt consolidation damage your credit?” is when you’re struggling to repay the debt consolidation loan itself.
Debt Consolidation Alternatives
If you still have concerns like, “do debt consolidation loans hurt your credit?”, or if you can’t deal with your monthly payments, then debt consolidation might not be for you.
Luckily, there are alternatives.
One of the more radical approaches is to file for bankruptcy. If all else fails and you can’t pay off your debts, bankruptcy can help relieve some of the pressure. However, this will greatly affect your credit score and will stay on your records for up to ten years.
A better alternative is debt relief, which is facilitated by companies like CreditAssociates. We have debt experts that can help you come up with a manageable debt repayment plan. Then, we’ll negotiate with your creditors on your behalf.
Debt relief is one of the better solutions out there for handling mounting debt. If you’d like to know more, request a free consultation with us today.