When we find ourselves in a mountain of debts, we will need to get help with it as soon as possible. There are many ways we can resolve debt problems, but one of the most chosen options is to opt for a debt consolidation loan. Indeed, one of the main benefits of getting this loan is to clear the rest of your debts which should help to improve your credit score – but how would the loan itself affect your credit score?

Well, the basic answer is – in the short term, your credit score will take a hit (due to a hard credit check and having a larger credit balance). However, in the long term – you should find your credit score improving due to regular payments and being out of multiple debts.

How Does A Debt Consolidation Loan Affect Credit Scores?

But of course, there’s a lot more to know than just this. So we’ve written this handy guide which explains everything you need to know about how debt consolidation loans work and how they might affect your credit score. Ready to find out more? Join us below and learn!

What Is A Debt Consolidation Loan?

A debt consolidation loan is a type of loan that allows you to borrow a large lump sum to collectively pay off all of your debts. These types of loans can be incredibly useful for some people, but more so if the debts are inclusive of credit card debts with high interest rates. Let’s take a look at some of the advantages of having a debt consolidation loan.

Easier To Manage Debt

One of the biggest advantages of obtaining a debt consolidation loan is the fact that it makes it much easier to manage your debts. Indeed, having one large debt as opposed to several debts can make life a lot easier and make your money management more streamlined. As a result of this, some people find their daily, weekly or monthly budgeting much easier to do and they often become happier as a result, or at least less stressed.

Credit Score Improvement

As a result of clearing other debts and paying monthly towards one credit agreement, many people will benefit from an improved credit score. Regular payments without being missed can significantly improve your credit score. This in turn can help you in the future – not only work towards becoming debt free, but also improving your credit score to make it easier to obtain credit in the future.

This is especially true if you have gone over your credit limit, or your credit utilisation is very high on your credit cards. Solving these problems with a debt consolidation loan can be very beneficial to your credit score.

Could Save You Money

Many people will have multiple credit card debts and if they are not 0% credit cards, they could find themselves paying exorbitant amounts in interest on each of their credit cards. By paying off all the cards in full, they could save thousands of pounds each month. Of course though, this will also depend on the credit agreement of your debt consolidation loan as well.

Can A Debt Consolidation Loan Be Bad For Your Credit Score?

Aside from the initial hit that your credit score takes, based on the fact that you will have undergone a hard credit check and your overall debt balance will have increased – there are other ways that this type of loan could be bad for your credit. Here’s some reasons why:

Poor Credit Management

Perhaps the biggest reason why this type of loan can significantly affect your credit score is because some people clear their debts, such as credit cards, but then continue to use them irresponsibly afterwards. As a result of this, many people can often find themselves back in the same position they were in before the debt consolidation loan – but now it’s worse because they have an even larger debt to contend with at the same time.

Defaulting On The Credit Agreement

Of course, as with any credit agreement, if you default on the terms and conditions of the loan – you could find your credit score becoming impacted negatively. Indeed, missed payments can leave a mark for up to six years. If you have a history with poor credit management, it’s always advisable to speak with an expert to help you control your spending and work towards a life of manageable credit.

Unachievable Interest Payments

Many borrowers do not look at the terms of their debt consolidation loan’s credit agreement. By ignoring the small print, they could find that the interest rate and monthly payments are unachievable for them to pay regularly. This puts them into the same position as the last point. They end up defaulting on their credit agreement and now have a large debt to contend with.

Is A Debt Consolidation Loan Right For Me?

Debt consolidation loans can be the right choice for many people, however you should not always turn your attention to this type of loan if you’re simply looking to improve your credit score. People who benefit from this type of loan include the following:

  • People with multiple debts they are struggling with
  • People with many debts with huge interest rates
  • People going over their credit limit regularly

What Happens If I Default On A Debt Consolidation Loan Agreement?

As with any type of credit agreement, defaulting can lead to significant trouble. Not only will your credit score be impacted very negatively, but you will find yourself in a debt situation which could have legal consequences.

Lenders could send debt collection agencies to try to recover their debt, they could potentially recover your home (depending on the agreement), they could seek the guarantor for payment (if you have used one) or they could force you into bankruptcy. When you’re in this situation, you will be extremely stressed and it might take you years to recover.

Therefore, you need to think carefully about accepting any sort of loan agreement before you’ve understood the potential ramifications.

Are There Other Options?

If a debt consolidation is not right for you, or you cannot be accepted for one, then there are other options you could consider. They are:

Government Assistance

The Government could help you to clear or manage your debts, depending on your circumstances. It’s a good idea to ask an advisor if you think you might be eligible for Government assistance.

Debt Charities

StepChange or the National Debt UK groups could help you with your debt situation. They are non judgemental and independent bodies who do not ask for any payments. They might say that you are better off going through something like an IVA, DRO or DMP rather than applying for a debt consolidation loan. However, these decisions have massive impacts on your credit score too.

Final Thoughts

Debt consolidation loans can affect your credit score, typically positively but only when managed correctly. Before you apply for one, consider your own circumstances and think carefully if this type of loan is right for you.

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