Financial Fundamentals Blog

How Debt Consolidation Affects Your Credit



When you find yourself swamped with debt and facing large monthly payments across multiple accounts, debt consolidation can become an attractive option to create short-term financial relief while also making a long-term plan for debt repayment.


Depending on how you approach debt consolidation, though, this financial relief can also bring potential drawbacks affecting your credit score and other financial considerations. Before you make any drastic decisions, take a few minutes to educate yourself on the credit implications of consolidating your debt.


Different financial products impact your credit in different ways.

Debt consolidation can be achieved through several different financial products depending on your goals and what products are available to you. With personal loans, for example, the added debt could negatively impact your credit score, but the addition of a new type of credit to your report could also boost your credit score.


Balance transfers, meanwhile, can be a great option for avoiding interest charges on credit cards — but the credit utilization of using balance transfers may mean your debt consolidation keeps your credit score low until your balance is reduced.


Interest rates on revolving credit can slow credit recovery.

When consolidating debt, one of your top priorities should be finding the lowest interest rate possible. Lower interest on your consolidated debt will help you pay off your debt faster, since your payments will be put toward the principal more than the interest charged. 


The amount of interest relief created by debt consolidation will depend on the types of debt you’re consolidating and the financial products you’re using to create relief. While credit cards typically have one of the highest average APRs, for example, promotional balance transfers may offer a 0% introductory rate — which will be cheaper than what personal loans or other loan products will offer.


While your interest rate isn’t the only variable to be considered when exploring debt consolidation options, be mindful of the impact of any interest charged on your debt repayment. In addition to the money it takes out of your bank account, this interest will also affect the balance owed on your debt, which will affect your credit score.


Long-term financial benefits often outweigh short-term credit impacts.

Although consumers may worry about the short-term impact of debt consolidation on their credit, always keep the long-term implications of these financial activities in mind. Even if a debt consolidation product — such as a balance transfer, for example — produces a short-term dip in your credit score, it could be the right option if that balance transfer offers the fastest path to debt repayment.


If your credit score is an urgent concern, though — which may be the case if you plan to buy a home or vehicle in the near future — personal loans may be preferable since they’re less likely to damage your credit score. They could also improve your score greatly if you’re consolidating debt from credit cards.


When does it make sense to consolidate your debt?

If you’re still stuck weighing the benefits of debt consolidation against its potential impact on your credit, here are some situations where consolidating can make a lot of sense:


  • When you’re paying high interest. Credit cards are notoriously expensive when it comes to the interest they charge. If you’re struggling to pay off your balance on the credit card’s due date, you’ll often save more — and pay off your debt faster — by consolidating into a product that charges a lower interest rate.

  • When you can’t keep up with your multiple payments. When your debt is spread across many different accounts, even the minimum payments can create financial strain. Consolidation can reduce the number of payments and even the total amount of those payments to create a manageable path forward.

  • When high credit utilization is sinking your credit score. As explained above, moving debt out of revolving accounts can actually improve your credit score in the short term.

Ultimately, the biggest thing to consider regarding debt consolidation isn’t about whether or not it affects your credit score in the short term. Instead, consumers should focus on the long-term value and financial stability that comes with consolidating and paying off debt.


If you’re struggling to pay down debt, your local credit union can connect you to debt counselors or other financial experts who may be able to help. Not a member? No problem. Open a checking account today, and gain access to our exclusive member services.


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