Is it possible to get debt help that does not hurt your credit score? Can a consolidation loan lead to credit improvements in the long run? The answer to both of these questions is yet, but only if you take a prudent approach to financial management, and pay off your debt as soon as possible.
One of the main ways to improve a bad situation is to consolidate your debts with a personal loan. This loan is used to pay off existing debts from high interest rates and unaffordable repayments. The idea is that the new loan has terms and repayments that you can afford, and ideally offers lower interest rates.
The problem is that debt consolidation loans with favorable terms can be hard to find, especially if your credit rating is already suffering. If you can find the right loan, then this is a valid option.
Effect on credit rating: Well, that all depends on your situation, and what you do after the consolidation. Any time you apply for credit, your rating will initially take a short term blow. If you use a consolidation loan to pay off credit cards that are near their limit, this can actually improve your score. The most important factor is to make repayments to your consolidation loan, so that over time your credit rating improves.
A Debt Management Plan (DMP) is different to a personal consolidation loan. In this case, you make consolidated payments to a debt agency, and they pay out each of your lenders. They are usually able to secure lower interest rates on debt, as well as offer reduced repayments
DMPs can be a good option for people who are struggling to make repayments and can’t gain approval for a debt consolidation loan, as the plans do not take credit rating into account.
Effect on credit rating: DMPs will initially harm your credit rating, and you will be forced to shut down most or all of your credit card accounts for the duration. However, your credit rating won’t be harmed by the fact that you are paying through an agency, and so the effect is not as bad as you might think. Again, if it helps you to make repayments on time and pay off debt, the outcome can be positive in the long term.
This debt solution is useful for those who are stuck with high interest credit card debt that they are struggling to pay back. In this case, you use a low or no interest credit card to clear the other cards, and use the money that you save to plug back into the debt.
If you are going to take this approach, it is crucial that you carefully study the terms and conditions of your new credit card to make sure that the low interest rates hold over time. Many have introductory rates that skyrocket later, and that could leave you with even higher interest rates and more debt to deal with. Choose carefully to make sure you are actually saving money.
Effect on credit rating: This all depends on how you use your new credit card. Credit rating is affected by the balance-to-available credit ratio (utilization rate). So if you max out your new card to pay off your old ones, you could end up in a worse situation. Conversely, if you clear maxed out cards and still have a decent balance left on your new card then your credit score could improve dramatically. Again, if the money saved on interest rates is used to pay off debt quicker, your credit score will improve in the long run.
If you are a homeowner, a home equity loan or line of credit can be a valid way to consolidate. In this case, the loan is secured against your home, so it is absolutely imperative that you make monthly repayments on time, or your property will be at risk.
The good news is, home equity loans and lines of credit come with substantially lower interest rates than credit cards. The savings can be used to pay back debt quickly and improve credit ratings in the long run.
Most methods of debt consolidation cause an initial fluctuation in credit score, as with any credit or loan. Different methods of consolidation have slightly different consequences for your rating, but each of them can be beneficial if they help you to secure lower interest rates and/or get back on top of repayments. If debt consolidation methods are used to clear credit cards that are close to their limit, then your utilization rate will also improve.
But the main factor in credit rating is in your ability to repay debt as soon as possible. The quicker you can repay your loans, the better your credit rating, not to mention your financial situation. So debt solutions should be used not as a way of moving debt around, but as a platform to get out of debt.
If you need debt help that does not hurt your credit rating, contact Debt Negotiators to find out which options can lead you to a better future.