Does Debt Consolidation Hurt Your Credit?

Debt consolidation can make your monthly payments more manageable, but taking out a new personal loan can temporarily hurt your credit.

The dip comes from a hard inquiry and because the average age of your accounts lowers. In the long term, though, you'll see your score increase again once you're consistently making on-time payments and reducing how much debt you're carrying. There are certain scenarios when debt consolidation can have a long-term, negative impact on your score — here's what you should know.

Key Takeaways

• Debt consolidation can temporarily hurt your credit score due to a hard inquiry when you apply and a reduction in the average age of your accounts, but the dip is typically small and short-lived for most borrowers.

• The long-term outlook can be positive. Paying off high-balance credit cards through consolidation lowers your credit utilization ratio and may produce a score improvement in as little as 30 to 60 days.

• Your credit is most at risk if you miss payments after consolidating or run up new debt on the cards you just paid off.

• A debt management plan stands apart from other consolidation options, as it carries a more immediate and significant negative impact on your credit score than methods like personal loans or balance transfers.

• To protect your score during consolidation, keep paid-off credit cards open to preserve your available credit, set up autopay to avoid late payments and monitor your credit regularly for unexpected changes.

Summary generated by AI, verified by MoneyLion editors

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Quick Take

• Debt consolidation can hurt your credit score in the short term, but it can boost your score in the long run by making debt easier to pay off.

• You have several debt consolidation options, and each of them has different impacts on your credit score and payment plans.

• Debt consolidation isn’t right for everyone, so it’s best to consider your financial situation and credit score before taking drastic action.

What Happens To Your Credit Score After Debt Consolidation?

Debt consolidation will affect your credit score. It will have an immediate impact, while the long-term result depends on how you approach your new payment plan.

Short-Term Impact

Debt consolidation can cause a small, temporary dip in your credit score. This is usually short-lived and depends on the option you choose.

Here’s why it may impact your score:

• Hard credit inquiry: Applying for new credit may lower your score by a few points.

• New account impact: Opening a new account can reduce the average age of your credit history.

Overall, the short-term impact is limited for most debt consolidation options.

Did You Know?

A debt management plan is the only option that has an immediate and significant negative impact on your credit score. Options like personal loans, home equity loans, home equity lines of credit (HELOCs) and balance transfers are typically easier to recover from.

Long-Term Impact

Debt consolidation can improve your credit score in the long run by making it easier to pay off debt. Each on-time payment will give your credit score a small boost.

Here's how it can help:

• On-time payments: Consistently paying on time can gradually improve your credit score.

• Lower credit utilization: Paying off high balances can reduce your utilization ratio.

Here’s an example:

• An $8,000 balance on a $10,000 limit = 80% credit utilization, which is high

• Paying it off with a personal loan = 0% utilization

Even if you get a balance transfer card with the same limit, you are still reducing your utilization ratio.

How does debt consolidation affect credit utilization? A credit utilization ratio starts to help your credit score if it is below 30%, but the best growth happens when your credit utilization ratio is below 10%.

Good to know: Only revolving credit lines are included in your credit utilization ratio. Personal loans and home equity loans are not included.

Credit Impact Timeline

Here’s how your credit score can change over time once you start the debt consolidation process:

• Day 0: Your credit score will take a hit since you are requesting new credit, which will trigger a hard credit check. The fact that you are reducing the average credit age across all of your new accounts will also reduce your score, but the impact won't be substantial.

• 30 to 60 days: At this point, you have a more beneficial credit utilization ratio after paying off credit card debt or transferring your balance.

• 3 to 12 months: The initial credit score drops from the new credit application and the average age of credit history has faded. The benefits of a low credit utilization ratio and solid payment history are the key drivers. However, people who didn’t pay off debt and increased their spending will end up in deeper financial holes.

• 24 months or longer: Your credit score should be higher in the long run if you make on-time payments. Some people may be debt-free at this point, depending on their original credit card balance and how aggressively they were able to cut down on debt.

When Can Debt Consolidation Hurt Your Credit?

While debt consolidation can streamline your finances and improve your credit over time, it’s important to understand the pros and cons of debt consolidation before moving forward.

• Missing payments will result in negative items on your payment history.

• Adding new debt will increase your balances and result in higher interest payments, which can lead to financial stress and difficulty with making payments.

• Relying on repeated debt consolidation instead of paying off the balance can create a loop. You'd be taking on new credit, additional fees and a lower credit score each time, so it's best to prevent this before it begins.

What Are the Different Types of Debt Consolidation and Their Credit Impact?

You have several options for debt consolidation. Balance transfers, personal loans and home equity loans have their strengths and weaknesses. If you’re new to this strategy, it can help to understand how debt consolidation loans work before choosing the right option.

Real Cost Example: $8,000 in Credit Card Debt

Here's how the numbers might look if you're consolidating an $8,000 balance. This amount is the same as the example used earlier.

A balance transfer can be less costly if you can pay it off during that 0% APR window. If a balance remains after the promo expires, though, the higher APR, which is often 20% or more begins, and your cost will add up fast.

A personal loan will cost more overall, but you have a fixed payment and a guaranteed payoff in three years, so you don't risk having your interest rate go up unexpectedly.

Is Debt Consolidation Right for You?

Debt consolidation is a popular option for people who have high-interest credit card debt and want to secure a lower rate. If you’re considering this approach, it may also help to learn how to get a personal loan for debt consolidation before getting started.

Good Fit if:

• You have many small balances on various credit cards that are difficult to manage

• You can secure a lower APR through debt consolidation than what you’re getting from your current card

• You want manageable monthly payments with a defined payoff date

• You have a good credit score

Not Ideal if:

• You have a bad credit score

• You can pay off the current debt within 1 to 2 months

How Do You Protect Your Credit During Debt Consolidation?

Your credit is guaranteed to take a small hit during debt consolidation since you will have to apply for new credit while reducing the average age across your debt. However, there are ways to limit the damage.

• If possible, look for a lender that will only run a soft credit check. Then, your score won’t take an initial hit. It’s possible to find these types of lenders if you only need to borrow a few hundred dollars.

• Ensure your payments are made on time.

• Keep your credit cards open after you have paid them off to preserve a low credit utilization ratio.

• Regularly track your credit score to ensure you are moving toward your goals and that fraudulent activity is not taking place.

Final Takeaway

• Debt consolidation will hurt your credit score in the short run, but it can lead to tremendous benefits in the long run for your credit score and overall finances.

• While consolidating debt can be a good way to secure a lower interest rate, it can also enable bad spending habits if you do not change the behavior that put you into deep credit card debt.

• A higher credit score will give you more financing options and competitive rates, but there are still debt consolidation options for people who do not have the best credit.

• Making on-time payments is the best way to boost your credit score after consolidating your debt.

Key Terms

• Hard inquiry: A credit check triggered when a lender reviews your credit report to make a lending decision. It can lower your credit score by a few points and typically remains on your report for up to two years.

• Credit utilization ratio: The percentage of your available revolving credit you're currently using. Keeping it below 30% helps your score, and the strongest gains tend to come when it falls below 10%.

• Credit age: A measure of how long you've held your credit accounts on average. Opening a new account lowers this average, which can temporarily reduce your score.

• Payment history: Your record of on-time and missed payments. It's the most heavily weighted factor in your credit score, so consistent on-time payments after consolidating can steadily improve your standing.

• Debt management plan: A structured repayment program coordinated through a nonprofit credit counseling agency that negotiates lower rates with creditors. It tends to carry a more significant short-term negative impact on your credit score than other consolidation options.

• Balance transfer: Moving existing credit card debt to a new card, often with a low or 0% introductory APR, to consolidate and reduce interest costs.

• Soft credit inquiry: A credit check that doesn't affect your credit score. Some lenders use soft pulls to show you prequalified rates before you formally apply.

Sources:

• Consumer Financial Protection Bureau: What is a debt consolidation loan?

• Consumer Financial Protection Bureau: What is a credit score?

• Consumer Financial Protection Bureau: Hard inquiry vs. soft inquiry

• myFICO: What is credit utilization?

Summary generated by AI, verified by MoneyLion editors

Debt Consolidation FAQs

Does debt consolidation hurt your credit?

Debt consolidation will slightly hurt your credit when you take out a loan or a line of credit. However, it can have significant long-term benefits if you make on-time payments. It also decreases your credit utilization ratio, which will translate into a higher credit score in the long run.

How long does it affect your score?

Debt consolidation can affect your credit score for up to one year. It can stop affecting your credit score in as little as three months, especially if you make on-time payments and reduce your utilization ratio.

Should you close credit cards after consolidation?

You should keep old credit cards open to maintain a good credit age and keep your credit utilization ratio low. It only makes sense to close old cards if they have excessive annual fees or if having additional credit lines can lead to overspending.

Will a balance transfer help your score?

A balance transfer can help your score in the long run by reducing your credit utilization ratio and giving you the opportunity to pay off your credit card with 0% APR for up to 24 months. However, a balance transfer, like the other methods, will trigger a hard credit check, which will temporarily reduce your credit score.

Do multiple applications hurt your credit?

No. Any loan or credit card applications you submit within a 14-day period will all count as a single hard credit inquiry. If you submit all of your applications in a short stretch instead of spreading them out over several months, the impact on your credit score will be limited.

What credit score do you need to consolidate debt without hurting your score more?

Usually lenders prefer that you have good to excellent credit — usually considered around 670 and up, which can help you qualify for lower, more attractive interest rates. You may find some debt consolidation lenders that lend to those with fair credit — considered around 580 to 669 — though those interest rates can be higher. Also, remember that if you do apply for a debt consolidation loan, it will come with a hard credit inquiry, which does temporarily ding your credit score.

Can paying off a loan early hurt your credit?

Paying off a loan early can lead to a small dip in your credit score, but it's not something that will hurt it in the long run. This is simply because you're closing an account, so it looks like you have fewer active accounts. Paying off debt is the better choice in the long run, since you aren't racking up interest and accumulating more.

Is debt settlement better for your credit than consolidation?

No. Debt settlement isn't better for your credit than consolidation because you're essentially settling the debt for less than what you owe, which can be a negative for your credit report. With debt settlement, you'll often stop paying, and that can lead to late or penalty fees. Creditors may also ramp up their efforts to get back the debt that's owed. It can be a costly route to take and may in fact add more to your debt than when you began.

Sarah Hostetler contributed to the reporting for this article.

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