How to Minimize the Impact of Debt Consolidation on Your Credit

Quick Answer

It's not possible to consolidate debt without impacting your credit score at all, but you can minimize the potential negative impacts and use consolidation to improve your credit over time.

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There are many different ways you can consolidate debt, and each one will typically affect your credit score. However, there are ways to reduce the potential negative impact of debt consolidation on your credit and even use the process to improve your credit score and your overall financial well-being. Here's what you need to know.

How Does Debt Consolidation Work?

Debt consolidation involves using a loan or a credit card to pay off high-interest debt—usually one or more credit card balances. The idea is to get a loan or credit card with a lower interest rate than what you're currently paying, allowing you to save money and potentially become debt-free more quickly.

Common ways to consolidate debt include:

  • Personal loans: On average, personal loans have lower interest rates than credit cards and offer repayment terms ranging from one to seven years. These loans are typically unsecured, so you don't need to have collateral to get approved.
  • Balance transfer credit cards: These specialized credit cards offer introductory 0% annual percentage rate (APR) promotions, which can range from 12 to 21 months. You can transfer a balance from another credit card, then pay it down with no interest charges. You'll typically have an upfront balance transfer fee of 3% to 5% of the transferred amount, which will be added to your new balance.
  • Home equity loan or line of credit: If you have a home with significant equity, you could use it as collateral to get a home equity loan or a home equity line of credit (HELOC). These loans have lower interest rates than personal loans, but they can come with upfront and ongoing costs, and if you fail to repay your loan, you could face foreclosure.

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How Does Debt Consolidation Affect Your Credit?

There are a few ways debt consolidation can impact your credit for better or worse, including the following:

  • Applying for a new loan or credit card: When you apply for credit, the lender will typically run a hard inquiry on your credit reports, which can temporarily affect your credit score.
  • Opening a new credit account: If you get approved for and open a new loan or credit card, it'll reduce the average age of your credit accounts, which impacts your length of credit history.
  • Changing your credit utilization rate: Your credit utilization rate—the percentage of your credit card limit you're using at a given time—is an influential factor in your FICO® Score . If you perform a balance transfer to a new credit card and it results in a higher utilization rate on the new card, it could negatively impact your credit score until you pay down the balance. Alternatively, if the balance transfer results in a lower utilization rate across your credit cards or you use a loan to pay off your credit cards entirely, it could have a positive impact.
  • Making payments: If you miss a payment on your old accounts during the debt consolidation process or on the new loan or card after consolidation, it could have a significant negative impact on your credit score. On the flip side, making on-time payments can help you establish a good credit score over time.

Also, keep in mind that as you eliminate debt, you'll free up more cash flow in your budget, making it easier to manage your expenses and avoid more debt in the future.

How to Minimize the Impact Debt Consolidation Has on Your Credit

While there's no way to consolidate debt without affecting your credit at all, there are some ways you can ensure that any negative impact is minimal—or at least temporary:

  • Consider keeping old credit cards open. While transferring debt from one or more credit cards to a new one could result in a higher utilization rate on the new card, it can help to have a low utilization rate across all of your cards. One way to do this is to keep your old cards open, at least until you've paid down your balance.
  • Pay off a balance transfer quickly. You may have more than a year to pay off your debt with no interest, but the faster you can pay down the balance, the faster your credit utilization rate will come down to a level that's better for your credit.
  • Avoid applying for multiple loans or credit cards. Applying for a lot of credit in a short period can be a red flag for lenders and potentially damage your credit. Try to avoid taking out credit unless you need it. And if you get denied for a loan or credit card, wait until you know the reasons and can work on improving your credit before you apply for something else.
  • Pay on time. Make it a priority to always pay your bills on time. If you miss a payment, pay it quickly—late payments don't get reported to the credit bureaus until they're 30 days past due.

Monitor Your Credit as You Work to Pay Off Debt

When consolidating debt, it's important to understand how your actions impact your credit. With Experian's free credit monitoring service, you can get access to your FICO® Score and Experian credit report, giving you valuable information as you pay down debt and improve your credit and overall finances.

If consolidating debt impacts your credit score, keep track of your progress as you work to rebuild it. Monitoring your credit can also make it easier to avoid mistakes that can damage your credit in the future.