What Kind of Debt Consolidation Won't Hurt My Credit?

Improve your credit and save money with a smart consolidation.

Improve your credit and save money with a smart consolidation.

Consolidating a number of debts into one is, for most, a worthy goal. And any damage to your credit score as a result should be minimal and brief. In fact, with good planning, not only can you save money now, you can actually improve your credit rating over time.

Impact of Credit Inquiries

Applying for credit results in an "inquiry" into your credit history. The frequency with which you apply will have an impact on your score. According to Fair Isaac, the typical inquiry will, on average, lower your FICO by about five points. However, if you apply for several loans in a short period of time, the scoring companies will view it as a sign of financial stress. This tactic would cause your score to drop even further. Regardless of which consolidation option you choose, shop around before you apply and limit the number of inquiries to minimize any negative impact on your credit score.

Home Equity Option

If you own a home, you may be eligible for a home equity loan or line-of-credit. In most cases, the interest rate on a HELO or a HELOC will be substantially lower than rates charged on credit cards. The money you were using to pay higher credit card interest can then be used to pay down your principal debt. There is, however, a catch. If you default on the loan, you could lose your house. A home equity loan or line-of-credit is often the best option for consolidating debt. Just make sure you can handle the new monthly payment before you commit.

Credit Card Option

For people who don't own a house, a no or low-interest credit card can be used to consolidate debt. As with the home equity option, however, prudent behavior will yield the best results. The catch with this option is that many companies offer debt consolidation loans at teaser rates. That is, they promote a low initial rate to lure you into signing up for their card. The rates, however, apply only for a limited time. Make sure you know when the low rate expires. Also, to truly be successful, use the money you save on the lower interest rate to pay down your principal.

Personal Loan Option

A personal loan through a bank or credit union is another way for people who don't own a home to efficiently consolidate debt. As always, there is a catch. Unlike a teaser credit card offer, you can lock in a rate for the long term. However, the fact that there is no collateral to secure the loan -- such as your home -- could mean that the rate you qualify for isn't much better than what you're currently paying. As with any product, shop around. If your friendly, neighborhood bank can't help you, perhaps your local credit union can.

Improve Your Credit Score

Your credit utilization rate -- the amount of debt you carry as a percentage of the total amount of credit available to you -- will have a greater impact on your score than credit inquiries will. Opening a new account automatically increases your available credit and, assuming you make no additional charges, causes your utilization ratio to go down and your score to go up. However, this only works if, after consolidating your debts into a single account with more favorable terms, you leave your old accounts open and use them sparingly if at all.

About the Author

Mike Gonyea served as an account manager and strategic planner at a Detroit advertising agency for 20 years. He has covered automotive finance, state and local government and interfaith issues for publications and websites including “The Detroit News,” American Thinker and A Common Word.

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