Thursday, November 24, 2022

Does Consolidating Credit Card Debt Hurt Your Credit

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Using A Personal Loan

Debt Consolidation & Management : Does Consolidating Credit Cards Hurt Your Credit?

A personal loan is an unsecured loan from your bank, which is generally used to consolidate debt or make a big purchase. If you’re using it to pay down debt, the strategy works like this: you use the loan to pay off all your credit card balances and then focus on eliminating the loan balance.

Consumers who take out personal loans pay down nearly 60% of their credit card debt on average, TransUnion finds, which brings the average balance down from $14,015 to $5,855.

But these loans don’t universally offer cheaper interest rates. And like all loans, you’ll need to apply and get approved. So if you have bad credit, you may risk getting declined, or approved with a high interest rate. On average, those with credit scores below 680 will be paying higher interest rates for a personal loan than the average credit card APR of 16.97%, according to an analysis by loan marketplace Credible.

For personal loans, the rate not only depends on your credit, but also on the length of the loan, as shorter loans tend to have lower APRs. If you feel that paying off your debt will take longer than three years, you may be subject to a higher rate, Credible finds.

Even if you do find a low interest rate loan, you also need to look at all the numbers, Roberge tells CNBC Make It. That’s because taking out a loan could come with origination fees, and paying those expenses could cancel out any savings you might generate by having the loan be at a lower interest rate than your credit card, he adds.

Does Debt Consolidation Hurt Your Credit

Debt consolidation loans can hurt your credit, but its only temporary. When consolidating debt, your credit is checked, which can lower your credit score. Consolidating multiple accounts into one loan can also lower your credit utilization ratio, which can also hurt your score.

However, making the choice to consolidate your debt into one manageable payment will improve your credit score over the long term. Payment history is 35 percent of your credit score, so making on-time payments will increase your score. If you only have revolving credit like credit cards, adding in a personal loan for debt consolidation can improve your credit mix and also boost your score.

A Debt Consolidation Can Help You Lower Your Monthly Payment And Help Improve Your Credit But Only If You Stick To A Plan To Pay Down Your Debt

If you have high-interest credit card balances on multiple accounts, just making those monthly payments can be so tough that you cant afford the things you really need or want much less save any money. It may also stress you out. In this situation, debt consolidation might be a smart decision. But before you get started, lets dig in to understand how debt consolidation can affect your .

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Does Debt Consolidating Affect Your Credit Rating

Debt consolidating can affect your credit rating if you close off your debt accounts when you consolidate or if you allow hard credit inquiries to be performed from multiple lenders. As long as you are careful not to close your accounts and compare interest rates from multiple lenders with a company that performs only soft credit checks, debt consolidating doesnt affect your credit rating.;

How Will A Debt Consolidation Program Impact My Credit

Does Debt Consolidation Hurt Your Credit Score?

A DCP or debt management program will also impact your credit; however, because most people who sign up for a DCP already have bruised credit, this isn’t a major factor.

When you sign up for a DCP, your debts will have an R7 rating, and then two years after you’ve completed the Program the debts, along with their R7 ratings, will be purged from your credit reports. However, many of our clients see a jump in their credit score as soon as they’ve completed their DCP.

When you complete a DCP with Credit Canada, we send you all the information and forms you need to update your credit file with the two credit bureaus Equifax and TransUnion. The process is simple and straightforward, and yields great results when it comes to our clients’ credit ratings and credit scores.

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How Can Debt Consolidation Hurt Your Credit

There are a couple of ways debt consolidation can drop your credit score.

For starters, consolidating with a balance transfer card or personal loan requires you to apply for a new credit account . In either case, lenders must pull your while underwriting. This leads to a hard credit inquiry which can temporarily bring your credit score down by several points.

A minor credit score reduction is standard practice during credit applications that require a hard credit inquiry. It must be noted this reduction should be temporary, but at any rate, your credit score will still drop.

Some debt consolidation lenders require you to close the various accounts you are consolidating which can result in a drop in your credit score. Because this will likely increase your credit utilization ratio as your available credit may decrease. If they do not require you to do this, the biggest risk with a debt consolidation is mismanaging your new credit account. Althought consolidating debt is supposed to make things easier, you are still required to make timely payments. The debt doesnt go away. If you miss payments, you can expect this to have a negative impact on your credit. As mentioned, this is a significant risk, but it isnt a new problem. Missed payments are a constant risk for any type of debt, and they will always have an averse effect on your credit.

The Smartest Way To Consolidate Your Debt

The most efficient strategy to consolidate your debt starts with making a list of all of your current loans and credit cards. Include the total balance, interest rate, minimum monthly payment and total remaining payments.

Next, decide what kind of debt consolidation option youd like, whether thats a personal loan, home equity loan or balance transfer credit card. You should get quotes from multiple lenders and compare APRs, terms and total interest paid.

Make sure to apply for these loans and credit cards within a two-week span to avoid multiple hard inquiries on your credit report. Once you have all of your offers, you can compare them with this debt consolidation calculator to see which lender you should choose.

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Your Credit Utilization May Change

If your credit utilization ratio moves higher after debt consolidation, it could negatively impact your credit score. Using the example above, if you transfer the balance of $4,500 from your existing credit card with a limit of $15,000 to a new credit card with a credit limit of $7,500, your credit utilization ratio on that new card will be 60%, potentially causing a hit to your credit score.

On the other hand, if you consolidate multiple credit card debts into one new personal loan, your credit utilization ratio and credit score could improve. Credit cards and personal loans are considered two separate types of debt when assessing your credit mix, which accounts for 10% of your FICO credit score.

For example, lets say you have three credit cards. Once again, using the example above:

  • The first card has a $4,500 balance with a $15,000 credit limit.
  • The second card has a $2,000 balance with a $10,000 credit limit.
  • The third card has a $5,000 balance with a $10,000 credit limit.

You would have credit utilization ratios of 30%, 20% and 50%, respectively, for these three cards. If you combine all three of those debts into one new personal loan of $11,500, the credit utilization ratios for each of those three cards will drop to zero , which could improve your credit score.

Should You Try Debt Consolidation

How Does Debt Consolidation Affect Your Credit Score?

Plenty of reasons exist for wanting to consolidate debt: lower interest rates; a single, lower payment; a chance to become debt-free on a date certain; breathing room to get reorganized and financially fit; a fresh start; and the promise of a soaring FICO score in the years ahead.

The method you choose for consolidating debt largely depends on your circumstances:

  • A loan might work for disciplined borrowers.
  • Debt settlement might work for those desperate few otherwise considering bankruptcy.
  • A debt-management program through a nonprofit credit counseling agency, such as InCharge, is for anyone who wants financial coaching and outside discipline; a professional running interference for them; a real, reliable, workable plan; and a date certain when theyll be debt free.

If youre still not certain which method is your best fit, or you want a second opinion about the method youve selected, those are even better reasons to begin .

Getting the best available advice is the surest way to launch your journey into a secure financial future.

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Home Equity Loan Or Line Of Credit

Homeowners can use the equity in the home for a one-time, lump-sum loan or line of credit to consolidate debt. It has the same impact on your credit score as any other loan, meaning your score will improve if you make on-time payments and will suffer if you miss payment. ;Since youre using your house for collateral, a worst-case scenario is that you lose your house if you dont make on-time payments. A home equity loan is similar, but a lump sum rather than a revolving line of credit.

One Reduces Creditors And The Other Reduces Debt

Peggy James is a CPA with over 9 years of experience in accounting and finance, including corporate, nonprofit, and personal finance environments. She most recently worked at Duke University and is the owner of Peggy James, CPA, PLLC, serving small businesses, nonprofits, solopreneurs, freelancers, and individuals.

Debt consolidation and debt settlement are both financial strategies for improving personal debt load, but they function quite differently and are used to resolve different issues. At a very basic level, debt settlement is useful for reducing the total amount of debt owed, while debt consolidation is useful for reducing the total number of creditors you owe. It is possible to receive secondary benefits through either strategy, particularly debt consolidation.

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What Makes Up Your Credit Score

The chart below shows how much weight is given to each of the factors that determine your FICO credit score:

Heres how it breaks down:

  • Payment history: Even a single late payment can damage your credit score. Late payments can stay on your credit report for up to seven years, though their effects generally lessen over time.
  • Amounts owed: The amount of debt you owe factors into your credit utilization ratio. The less of your available credit you use, the higher your credit score will likely be.
  • Length of credit history: How long your credit accounts have been open also affects your score. Generally, keeping your accounts open will have a positive impact on your credit over time.
  • Opening a range of different account types including both installment loans and revolving credit can also help you build your credit. This demonstrates that you can handle multiple kinds of credit.
  • New credit: Applying for new credit could ding your score by a few points for each hard credit check. If youve applied for several new accounts in a short amount of time, it could negatively impact your credit.

Keep in mind:

If you have multiple inquiries over a period of two weeks, your FICO score will generally treat these as one inquiry lessening the effect on your credit score.

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Debt Consolidation Or Debt Settlement Companies

Consolidation Loans: Do They Hurt Your Credit Score ...

Debt Consolidation Loans

With a debt consolidation loan, it is important to first know what range your credit score falls into. For people with a “poor” credit score it may be difficult to get approved for a new loan to use for consolidation. People with “fair” to “exceptional” credit scores will have an easier time getting approved for a new loan, and will also be eligible for a lower interest rate.

Knowing your credit score before you apply for debt consolidation loans will help you choose the right loan and avoid incurring multiple hard inquiries in a short period of time.

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Debt Consolidation Loans: Taking Control Of Your Credit Card Debts

As anyone who has ever owned credit cards will attest, card debt can build with surprising speed. It only takes a few months of missed payments to create a card balance that is almost too much to handle. But when it happens, there is a solution. A debt consolidation loan can clear it all in one payment.

The challenge of clearing unsecured credit card debt is admittedly a tough one, with the slightest delay increasing the scope of the undertaking. With the average American professional owning as many as 4 credit cards, it can mean a total debt of between $20,000 and $40,000

The only real solution is to swiftly clear the debt, so as to leave no room for any further delays. But is a debt consolidation program really the most effective solution to the problem?

The Nature Of Credit Card Debt

Of course, clearing unsecured credit card debt is not cheap, but the advantage of using a single loan sum to do so is that the immediate debt is gone, and the replacement debt is easier to manage. For example, a $10,000 loan can be repaid over 3 years for much less per month than the minimum payment the card company would have demanded.

However, while a debt consolidation program seems ideal for dealing with credit cards, only personal discipline can keep any future card activity under control and prevent a similar situation from developing.

Added Advantage of Consolidation

Debt Consolidation Companies

What Do I Need To Know If Im Thinking About Consolidating My Credit Card Debt

When you consolidate your credit card debt, you aretaking out a new loan. You have to repaythe new loan just like any other loan. If you get a consolidation loan and keep making more purchases withcredit, you probably wont succeed in paying down your debt. If youre havingtrouble with credit, consider contacting a credit counselor first.;

Consolidation means that your various debts, whether they arecredit card bills or loan payments, are rolled into one monthly payment. If youhave multiple credit card accounts or loans, consolidation may be a way tosimplify or lower payments.; But, a debtconsolidation loan does not erase your debt. You might also end up paying moreby consolidating debt into another type of loan.

Before you use a consolidation loan:

  • ;Take a look at your spending. Its important to understandwhy you are in debt. If you have accrued a lot of debt because you are spendingmore than you are earning, a debt consolidation loan probably wont help you getout of debt unless you reduce your spending or increase your income.
  • Make a budget. Figure out if you can payoff your existing debt by adjusting the way you spend for a period of time.
  • Try reaching out to your individualcreditors to see if they will agree to lower your payments. Some creditors might be willing to accept lower minimum monthlypayments, waive certain fees ,reduce your interest rate, or change your monthlydue date to match up better to when you get paid, to help you pay back yourdebt.

Home equity loan

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Paying More Interest In The Long Run

Debt consolidation loans can lower monthly payments and provide significant relief for consumers who are struggling under a heavy debt load. However, consumers need to be aware that consolidation loans can often mean paying more interest in the end. Consumers who utilize the equity in their homes are likely looking at significant closing costs and long loan terms. This means that consumers could be paying interest on their debt for up to 30 years.

Dont Close The Paid Accounts

How Debt Consolidation Affects Credit

After you pay off credit cards, dont close every account. Having them on your credit report affects these factors that make up your credit score:

  • Age of credit history: Creditors want to see youve been around the block with credit. When you close old cards, your average credit history gets shorter.
  • This is the variety of types of debt you have installment loan versus credit card versus mortgage, for example. It has a small but significant effect on your credit score.
  • Utilization: More cards open means more available credit. Cut up your cards to avoid growing that balance again, and that unused credit will keep your utilization ratio low.

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When It Makes Sense To Consolidate Credit Card Debt

Before you choose to consolidate credit card debt, it is important that you understand if it is the right option. There are certain signs that will tell you if consolidating credit card debt is okay. Here are some of them.

In case you can relate to one or two of these situations, then you can look further into debt consolidation as an option to solve your credit problems. If you are still unsure, you can get help from a debt expert. Check with us if you qualify for debt consolidation by visiting our website and talking to one of our trained debt experts. The initial consultation is free. We will help enlighten you about various financial truths so you can make a smart decision about your debt situation.

Can I Consolidate My Debt With Bad Credit

Consolidating credit card debt with bad credit can be a bit difficult. If you have bad credit and apply for a debt consolidation loan, you may end up getting denied for the loan or get offered unfavourable terms on the loan that limit the benefits of applying for one in the first place. Worse yet, the lenders check of your credit can lower your credit score a bit further, making future attempts to qualify for a loan even less fruitful.

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