Does debt consolidation hurt your credit score?

You have some debt, and you've been researching options for debt relief. That's a good thing—it means you're already taking steps to improve your financial situation. Debt consolidation is one possibility you've considered. Only you're worried about how it might affect your credit. 

Here's the truth. Debt consolidation can temporarily hurt your credit, but it could also help you improve your credit standing over the long term. You may lose a few credit score points when you apply for a debt consolidation loan. But it’s possible to gain them back as you repay what you borrowed. You could come out of debt consolidation with a better credit score than you had going in. 

Let's look at the impacts of debt consolidation on credit in more detail, so you can decide if it's right for you.

Achieve isn't a credit repair organization and doesn't provide or offer services or advice to repair, modify, or improve your credit. 

Why your credit score might drop at first

What is debt consolidation? In simple terms, it's when you combine multiple debts into one, usually through a debt consolidation loan.

• You apply for a loan, which might be a personal loan for debt consolidation or a home equity loan. 

• You use the loan to pay off credit cards, medical bills, or other debts.

• Once your other debts are paid, you repay the loan, with interest. 

So, how does debt consolidation hurt your credit? It starts when you apply for a consolidation loan and a lender checks your credit. This is called a hard inquiry, and it shows up on your credit reports. Each new inquiry could knock a few points off your credit scores; inquiries count toward 10% of your FICO credit score calculation. 

Adding a new loan to your credit history affects your credit age, which makes up 15% of your credit score. When you open a new loan account, that can lower your average credit age and cost you a few more points. 

Finally, there's the impact on credit utilization, which is 30% of your FICO Score. Credit utilization means how much of your total credit limit you're using. 

If you pay off your credit cards with a personal loan, your utilization would go down, and that’s good for your credit.

How debt consolidation could help your credit in the long run

Debt consolidation could help you get a better handle on what you owe. It could also yield some positive credit score benefits. Here's why consolidation could be a good thing where your credit is concerned. 

• On-time payments. It might be easier to manage debt repayment when you have one payment each month, versus several. It’s harder to pay late or miss a payment when there’s only one. That’s huge, since payment history counts toward 35% of your FICO Score. 

• Lower rates. If you consolidate debt with a personal loan at a lower rate, you could pay it off faster. Paying off debts is viewed favorably in credit score calculations.  

• Reduced utilization. Consolidation could lower your credit utilization ratio if you pay off your credit cards with an installment loan. The key is not creating any new balances on your old cards after you pay them off. 

When you look at the pros and cons of debt consolidation, you have to weigh both sides of the credit impact coin. The short-term pain of a credit score drop could be worth it in the end if your score rises over time, you get rid of debt faster, and you potentially save some money on interest while you do it. 

How long does debt consolidation affect your credit? 

The initial negative impact of debt consolidation usually lasts a few months. The positive effects could last for years after you pay off the loan, assuming you make all your payments on time and don't create any new balances on your paid-off cards. 

When is debt consolidation a good idea? Typically, it makes sense when you:

• Have committed to not running up new debt on your cards after you pay them off. 

• Can comfortably afford the payments required for a debt consolidation loan or balance transfer. 

• Want to simplify your finances and budget with fewer monthly debt payments. 

• Feel your debt is still manageable, but need a less stressful way to pay it off. 

• Can lock in a lower interest rate with a debt consolidation loan or credit card balance transfer. 

Sometimes debt consolidation isn't the answer. If you're behind on credit card payments, for example, or you're on the verge of falling behind because you're struggling financially, then an alternative like debt relief might be a better choice. When you resolve debt, you pay it off for less than what you owe. Talking to a debt expert can help you weigh all the options to find the right one for your situation. 

Tips to protect and rebuild your credit after consolidating

If you're set on debt consolidation, think about what you can do to keep your credit in good shape from start to finish. Here are a few tips to help you navigate consolidation with minimal damage to your credit. 

• Pay on time. Payment history has the biggest impact on your credit scores, so paying on time should be a no-brainer. If you get a debt consolidation loan, your lender might reward you with a rate discount when you set up automatic payments. You save on interest, and you don't have to worry about paying late. 

• Avoid new debt. Once you pay off credit cards with a consolidation loan or balance transfer, resist the temptation to use them again. If you charge new balances, you could hurt your credit utilization ratio and end up with even more to repay.

• Check your credit. It's free to check your credit reports, and it doesn't hurt your credit scores at all, so it makes sense to take a peek at your progress. If you pay on time and don't add to your debt, you should notice a slow and steady increase in your scores from month to month. 

• Keep old accounts open. You might assume you should close your credit card accounts if you pay them off, but that could hurt your credit utilization ratio by decreasing the available amount of credit. Instead, keep old accounts open, but don't use them. If your credit card company sends a letter warning you they'll close your account for inactivity, make one small purchase and pay it off right away. 

Explore more ways to increase your credit score quickly.