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Managing your debt can be stressful and challenging. Especially if you have high-interest-rate credit card debt. It can become difficult to keep up with all the monthly payments and you may find yourself falling further into debt. It’s a stressful cycle.
Are you worried about your credit and looking for ways to improve it?
Consolidating your debt can be an easy way to lower your monthly payments, pay less interest, and even improve your credit. That is if you stick to the plan and actually pay down your debt.
Before you decide to consolidate your debt, let’s dig in and understand what debt consolidation is and how it can affect your credit score.
Ways to Consolidate Your Debt
Debt consolidation is the process of combining multiple debts into one single loan or payment, with a lower interest rate. Common ways to do this are:
- Personal Loans
- Credit Card Balance Transfer
- Home Equity Loans or Lines of Credit
- Debt Consolidation Loans
In each case, you take out a low-interest-rate loan and therefore lower your monthly payments overall.
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Why You Should Consolidate Your Debt
Consolidating your debt simplifies your finances. All you have to do is manage a single monthly payment rather than juggling multiple due dates and interest rates. If done right, debt consolidation can lead to lower interest rates, saving you money in the long run. It can also have a positive impact on your credit score by reducing your credit utilization ratio and helping you demonstrate responsible debt management.
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How Debt Consolidation Can Affect Your Credit
While debt consolidation can have positive effects on your credit as discussed above, it’s essential to understand its full impact. When you open a new credit account or apply for a loan, the lender will do a hard inquiry into your credit score which will result in a temporary dip. The new credit account or loan will also lower the average age of your account and therefore, may lower your score for a time. While these things may lower your score, remember that your lower credit utilization ratio and on-time payments will boost your score, so it isn’t all bad.
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Alternatives to Debt Consolidation
Debt consolidation isn’t the right choice for everyone. If you think it’s not for you, consider these alternatives. Just remember that they too can affect your credit.
- Debt Management Plans: These involve negotiating with creditors for lower interest rates and a consolidated monthly payment.
- Credit Card Refinancing: Transfer high-interest credit card balances to a new card with a lower introductory rate, often a 0% APR. This can reduce interest costs and accelerate debt repayment.
- Bankruptcy: As a last resort, you may explore bankruptcy options, but this should only be considered after careful consultation with a bankruptcy attorney.
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The Bottom Line
Consolidating your debt into a low-interest personal loan, balance transfer credit card, or home equity loan, may hurt your credit score in the short term. But everything is temporary. Make your payments on time and in full, keep a low credit utilization ratio, and repay your debt in a reasonable amount of time and your score should not only recover but improve.
Getting rid of debt and establishing a positive payment history are major factors in determining your credit score. Before you go ahead and consolidate your debt, consider if it is the right decision for you and always compare lenders and offers so that you get the best possible rates and terms.
