Does debt consolidation hurt your credit scores?

Written by: Eric Rosenberg
• Updated •6 min read
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In a Nutshell

Debt consolidation — combining multiple debt balances into one new loan — is likely to raise your credit scores over the long term if you use it to pay off debt. But it’s possible you’ll see a decline in your credit scores at first. That can be OK, as long as you make payments on time and don’t rack up more debt.
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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 can’t 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, let’s dig in to understand debt consolidation and how it can affect your credit scores.

What is debt consolidation and how does it work?

Debt consolidation allows you to combine numerous outstanding debts into one loan — or one balance transfer credit card — giving you one monthly payment instead of multiple. This can be a good way to stay on top of your debt because you only have to keep track of one payment. When you consolidate your debt, you may also be able to get a lower interest rate, which might save you money in the long run.

How debt consolidation affects credit scores

When you consolidate debt, you pull several levers at once that help or harm your credit. Here are some short-term causes of a credit score drop when consolidating debt.

  • New credit applications — The first possible damage to your credit scores can happen before you even consolidate: When you apply for that personal loan or balance transfer credit card, the lender will perform a hard inquiry on your credit, which will lower your credit scores by a few points.
  • New credit account — Opening a new credit account, such as a credit card or personal loan, temporarily lowers your credit scores. Lenders look at new credit as a new risk, so your credit scores usually have an additional temporary dip when taking out a new loan.
  • Lower average age of credit — As your credit accounts get older and show a positive history of on-time payments, your credit scores rise. Opening a new account adds a new newest account and lowers your average account age and may lower your scores for a while.

But it isn’t all bad. Here are some positives for your credit scores from a debt consolidation.

  • Lower credit utilization ratio — This ratio, a measure of how much of your available credit you’re using, may fall when you open your new debt consolidation account because it will increase your available credit. Lower credit utilization may counter some of the negative effects of opening a new account that we mentioned above.
  • Improved payment history — It will take some time, but if you make payments on your new loan on time you may see your credit scores slowly rise. Your payment history is the biggest factor in your credit scores, so you should always try to pay on time.

Ways to consolidate your debt

The basic idea of debt consolidation is to merge multiple credit or loan balances into one new loan. But not all debt consolidations make sense. Here are four ways you can consolidate debt depending on your credit and savings:

  • Balance transfer credit cards — Some credit cards, called balance transfer cards, offer introductory periods when they charge low or no interest on balances that you transfer to the card within a set period of time. This gives you an opening to save on interest and make more progress paying off your debt.
  • Personal loans — If you can get a personal loan with a lower interest rate, you can pay off your higher-interest credit card balances, which may allow you to pay off your debt faster.
  • Retirement account loans — You may be able to take a loan from your retirement account to consolidate and pay off debt. Just be careful to pay it back according to the retirement plan’s rules or you may face taxes and penalties.
  • Home equity loan or line of credit – With a home equity loan or home equity line of credit, homeowners who’ve built up an ownership stake in their home may be able to take out a loan using their home as collateral. These loans typically offer lower interest rates than credit cards or personal loans. But beware: If you don’t pay it back, you could lose your home.

How to consolidate your debt without hurting your credit score

While it may not be entirely possible to avoid hurting your credit when you consolidate your debt, there are some things that can help you prevent a big dip in your scores. 

The most important thing you can do to help your credit score is to pay your bills on time. Always try to continue to make payments on your debt before it gets consolidated — some methods may take longer than others. Keeping up with on-time payments will build your payment history and your credit score can benefit. 

You should also keep your old credit lines open and avoid opening new accounts for a few months. If you close your credit lines or open new ones, it may hurt your credit age and bring down your credit score. 

Another good tool is making and sticking to a budget. This can help you avoid possibly going further into debt by spending more than you can afford to pay off, which can also hurt your credit. 

Pros and cons of consolidating your debt

Debt consolidation can be a good financial tool if you have multiple debts that you’re struggling to balance. Here are some pros and cons of debt consolidation and how it may impact your credit. 

Pros of consolidating debt

  • Possibly save on interest
  • Simplify payments from multiple to one
  • May help your credit in the long run with on-time payments

Cons of consolidating debt

  • Your credit could go down in the short term
  • Your credit can be negatively impacted if you miss your payments
  • May not get approved for a lower interest rate

FAST FACTS

The best balance for your credit scores is zero

Carrying a balance does not help your credit scores, no matter what you may have read or heard elsewhere. If you use a card regularly and pay it off in full every month, it can give you the biggest credit score boost without paying a cent in interest.

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Debt consolidation options

If you’re ready to look into personal loans or balance transfer cards to help you consolidate your debt, consider these options: 

  • Discover: this lender can pay off many creditors directly, saving you a step. 
  • Avant: this lender is good for those who may not have the best credit.  
  • U.S. Bank Visa Platinum card: this card is a good option for a long intro APR offer. 
  • Citi Simplicity Card: this card doesn’t charge any late fees.

Bottom line

Consolidating your debt into a new, lower-interest loan — a balance transfer credit card, personal loan or home equity loan — may hurt your credit scores in the short- or medium term. But if you make regular, on-time payments on that consolidation loan and pay it off in a reasonable amount of time, your credit scores should recover and may even improve over the long run as you get rid of debt faster and establish a sound payment history. Before you apply, be sure to consider all the pros and cons of a debt consolidation loan.

FAQs about debt consolidation

What is a debt consolidation loan?

A debt consolidation loan is a personal loan that allows you to combine multiple debts into one monthly payment.

When is debt consolidation a good idea?

If you have credit card debt that charges 20% or more in interest, consolidating into a new credit card or loan with a lower interest rate will save you money. Do the math for your specific debt to make sure you’ll save more than any fees you’ll pay for balance transfers.

Can I still use my credit card after debt consolidation?

Yes, you can still use your credit card after debt consolidation. If you’re using a balance transfer card to consolidate your debt, make sure you know what your credit limit is so you don’t exceed it — or get charged any fees.

About the author: Eric Rosenberg is a finance, travel and technology writer in Ventura, California. He has an MBA in finance from the University of Denver. When he’s away from the keyboard, Eric enjoys exploring the world, flying small… Read more.