What is debt consolidation ? How it affects Credit score ?

When the debts you have taken pile up, the one option for paying it back is debt consolidation. Your debt consolidation report, before you combined the bills, should look better than your credit report. Ultimately, the aim is to improve your credit score, not ruin it. Debt consolidation saves us time and money when we are trying to get out of the debts of loans and credit cards. But does debt consolidation only help our credit or does it hurt it too? It depends on how we consolidate and what we do after consolidating.That is why, it is important for us to understand how debt consolidation will affect our credit.

First let us understand what is debt consolidation:

In simple terms, debt consolidation is taking one big loan which would be enough to pay off your multiple outstanding debts. You get the money to pay off the debts, and then have to make only a single payment to pay the new debt. In this way you don’t have to worry about different loans and their interests but just one loan. Debt consolidation can be done in different ways- we can take a loan or make a new credit card account and transfer all our existing credit balances there.
Debt consolidation will obviously affect our credit score as we are taking a new credit card or loan. It can affect our credit score both negatively as well as positively:

Positive effects:
It is easier to deal with a single payment than managing several outstanding accounts. Instead of worrying about the fees and interest piling up on your several accounts, you now have to worry about only one account. Due to this fact, you will now be able to efficiently budget your money as you will know exactly, how much your monthly payment will be. Likewise, it will also help you save money.Personal and home loans have lower interest rates than most credit cards. Many people also use credit cards with zero percent interest rate for debt consolidation. If you have huge amount of debt at very high rate of interest, then consolidating these debts will help you save 20% or even more on your debts.

Negative effects:
Debt consolidation works only if you manage it correctly, but usually even doing the right can damage your CIBIL score temporarily. It depends on your actions on how it will your hurt your score.Missing a payment on your debt consolidation loans can bring your credit score down. If you close your credit card accounts after consolidating, it can negatively affect your credit score. Don’t close your old accounts as they give you the longest credit history. Always wait till all your debt is paid off before you close your accounts. This is because, your debt level will stay but your available credit will start to decrease. This will make it look like you “maxed out” and can be a big risk.

When you are applying for a new loan or credit card, you apply for new credit which will eventually lead to a “hard enquiry” in your credit and your score would go down.
Your credit score also partly depends on your credit utilization ratio.If your credit cards maxed out and you open a new card it will increase your debt and will make your utilization ratio go down which will eventually help your score. But if you carry a high balance on any of these cards, your score will take a dip. If you have transferred your multiple debts and closed your credit limit, your credit score will still suffer even though your other credit cards are paid off.

The conclusion is, handling your debt consolidation properly will have a positive effect on your credit but if you go the wrong you will do more harm to your credit score.

Deal with credit score issues by consulting doctor for all your financial worries only at www.cibilconsultants.com

Source: Secondary