Debt consolidation is the process of moving your various sources of debt to one source for easier payoff. If you have a low interest rate from this source, you can save a great deal of money. Whether debt consolidation affects your credit score depends on the way you choose to go about it and how successful you are at paying off this new debtor.
The type of debt consolidation you choose makes a difference on whether it is going to affect your credit score. You can go through a debt management plan, in which the debtor agrees to less than what you owe and you in turn are able to pay all of your debtors through the debt management company. You can also choose to obtain a loan to pay off all of your debt and pay on that loan. Another option is to combine all of your debt onto a 0 percent credit card.
If you choose a debt management plan, you can end up with negative markings on your credit report, which in turn affects your credit score. Any negotiation on your balance shows that you are not able to handle your financial obligations, which makes you less creditworthy. Transferring debt to one source and closing other lines of credit can result in high outstanding debt. Having fewer creditors with a high level of debt is often worse than having more than one credit card with less debt.
Perhaps the best way to go about debt consolidation is to obtain a consolidation loan from a bank and make on-time payments until the loan is paid off. The positive effects of this are that all of your debt is paid off and you have built a positive line of credit with the loan that you took.
Although your intention is to reduce and eliminate debt, sometimes things come up that you cannot avoid. Depending on the type of loan you take, it can be dangerous if you default on it. If you ake a loan out on your home equity, you are at risk of foreclosure if you are not able to make your payments. Likewise, if you consolidate your debt on a 0 percent credit card and are unable to pay it, you have more negative markings on your report and a lowered credit score. Your 0 percent credit card can also result in a high interest rate if you make a late payment, so it is important to know the penalties ahead of time and decide if it is worth it.
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