Credit Impact of a Debt Consolidation Loan

No matter how you decide to handle your debt, it’s likely to have a significant impact on your credit. So what happens to your credit if you consolidate your debt with a debt consolidation loan? There are no guarantees, but here are some things to keep in mind.

Lowering your credit utilization ratio helps

One of the factors considered in most credit scoring models is credit utilization ratio. This ratio represents the percentage of your available revolving credit (including credit cards and lines of credit) that you’re currently using. The more of your available credit in use (in other words, the closer you are to your credit limit), the worse it is for your score. If you use a debt consolidation loan to pay off credit card balances and those cards remain open, your credit utilization should drop significantly, which could have a very positive effect on your credit score.

Having a mix of credit accounts helps

It’s a substantially less significant factor, but most credit scoring models have some form of “credit mix” category. Basically, having (and successfully maintaining) a variety of credit types is beneficial. So adding a new type (like an unsecured personal debt consolidation loan) could potentially boost your credit – just not a ton.

Closing old accounts hurts

The older the age of your open credit accounts, the better. If you end up closing your credit card accounts as a result of using a debt consolidation loan, that could lower the age of your accounts (replacing multiple old accounts with one new account) and drop your score slightly.

Paying off your debt helps

The two biggest factors in your score are almost always timely payments and total debt balance. If the debt consolidation loan helps you make payments on time every month and you successfully reduce your personal debt (without adding more on top of what you’ve paid off), that should have a very positive impact on your score.