Does debt consolidation hurt your credit?

Debt consolidation could affect your credit score in both positive and negative ways.

Approaching potential financial strategies with caution is a smart move. Debt consolidation is likely to impact your credit profile in a few ways. Let’s explore what they are and how you could use debt consolidation on your path to a better, more manageable financial situation. This isn’t just about surviving. It’s about thriving.

Achieve is not a Credit Repair Organization and does not provide, or offer, services or advice to repair, modify, or improve your credit.

Understanding the impact of debt consolidation on credit scores

Debt consolidation means combining debts so you have fewer monthly payments to make. Generally, people do this by using a debt consolidation loan (there are different kinds) or a balance transfer credit card. Homeowners could also consolidate debt by combining what you owe into one home equity loan. They don't work the same way, but they can all affect your credit scores. 

Why? Because applying for new credit affects your credit profile, and so does the way you handle your accounts. The impact can be positive, negative, or a little of both.

Debt consolidation and your credit at a glance

Here’s a quick side-by-side view before we explain the details.

Positive effects of debt consolidation on credit score

Can debt consolidation help your credit score? Yes, though it might take some time for the effects to show up.

Here's how consolidating debts could give your credit score a boost.

• Consolidating debts could help you create a positive payment history. Making on-time payments is the most important thing you can do to improve your credit profile. If you consolidate debts so that you have just one payment to make each month instead of several, you could reduce the chance of missing a payment. Paying on time consistently could have a positive effect on your credit profile and show lenders that you know how to use debt responsibly. 

• Your credit utilization ratio might improve. Credit utilization is how much of your credit limits you're using on your credit cards. If you have a $100 balance on a credit card that has a $500 credit limit, your utilization is 20%. Higher utilization tends to have a negative effect on your credit profile. One benefit of debt consolidation is that when you pay off credit card debts with a debt consolidation loan, that could bring your credit utilization ratio down and have a positive effect on your credit score.  

• You can diversify your credit mix. One factor in your credit score is whether you have experience with different types of credit, such as installment loans and credit cards. If you don’t have experience with an installment loan, getting one could round out your credit mix, which could reflect positively on your credit profile.

Potential negative effects of debt consolidation on credit score

Here's how debt consolidation could ‌have a negative impact on your credit.

• You will probably get a new inquiry on your credit report. When you apply for a debt consolidation loan or a balance transfer credit card, the lender will almost certainly do what's called a hard credit check or hard pull. That means a creditor checks your credit history because you applied for credit. This type of inquiry shows up on your credit reports, and each hard credit check could temporarily knock a few points off your score. 

• Your credit age can change. Credit age is the average number of years your credit accounts have been open. If you have a 10-year-old account and a 5-year-old account, your average credit age is 7.5 years. If you add a brand new account, the average drops to five years. Adding a new loan or line of credit to the list can shorten your credit age and ding your score a little. 

The biggest risk with debt consolidation is that you add to your debt. A common pitfall of debt consolidation is to pay off high-interest credit cards with a new debt consolidation loan, and then run the balances back up on those paid-off credit cards. If that happens, you could end up even deeper in debt than before and your credit score could drop. 

What affects how much your score moves?

Not everyone sees the same change in their credit score after consolidating debt. A few factors could make the impact bigger or smaller. 

Your existing credit mix. Adding an installment loan when you only have credit cards could help you more than it would help someone who already has a variety of loan types. 

The number of other credit inquiries you have on your credit report. If you only apply for one new personal loan or credit card, you could lose a few points. If you apply for several, your score could fall more. 

What you do with your consolidated accounts. When you pay off your credit cards with a new installment loan, your utilization drops. Low utilization tends to have a positive effect on credit. If you keep using those cards open and run the balances back up, you could lose the benefit of low utilization. If you close the cards, your average account age could go down, but that’s less impactful than high credit card balances when it comes to your credit score.

Your credit profile is yours alone, and your unique combination of factors determines what happens to your score on any given day.

Protecting your credit score during consolidation

If you're thinking debt consolidation is a good idea, it helps to know how to minimize any fallout with your credit score. Here are a few tips for preserving your credit score as much as possible when combining debts. 

• Shop around for the right lender. Comparing rates, fees, and loan terms could help you choose the best loan before you apply, which means that hopefully you’ll only need to apply for one loan. That minimizes the number of hard credit checks on your credit profile. Talk with lenders that will let you check your rates without affecting your credit scores. 

• Automate payments if you can. Automating payments could help you protect your credit profile by avoiding late payments. An alternative is to set up due date reminders so you always know when it's time to pay your loan. 

• Hold off on applying for new credit. While credit inquiries have a relatively small impact on your credit profile, it's still good to limit them if you can. Only apply for new credit while you're paying off your consolidation loan if it's absolutely necessary. 

• Don't create new debt. Charging up your credit cards after you consolidate debts is a bad idea. Not only could it harm your credit, but it could also leave you in a more challenging financial position.  

Read more: How to get a debt consolidation loan

What's next

• Compare quotes from lenders who do a soft credit check. 

• Consider the pros and cons of debt consolidation to decide if it’s the best solution for your situation.

• Talk to a debt expert if you're struggling to figure out the best way to address your financial situation.