Are debt consolidation loans a good idea? If you’re feeling overwhelmed by multiple loan payments and would like to pay off your debt faster, a debt consolidation loan offers a route to financial stability. 

However, consolidating debt will usually affect your credit, at least for a while. Understanding the impact debt consolidation can have on your credit score can help you decide if debt consolidation is right for you. Here, we take a look at: 

• How debt consolidation works
• Whether debt consolidation can hurt your credit
• How to consolidate loans without hurting your credit
• The pros and cons of debt consolidation
• When is debt consolidation a good idea and when to avoid it
• Different types of debt consolidation loans

Read on to learn more about the benefits of debt consolidation, how it might affect your credit, and whether it is a sensible option for improving your financial situation.

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How Does Debt Consolidation Work?

Debt consolidation involves taking out a single new loan to pay off multiple debts. This new loan should come with a lower interest rate, which can help to make your monthly repayments more manageable.

You’ll use the funds from your loan to pay off your outstanding higher-interest debts, from credit cards to store accounts to other personal loans. Ideally, you’ll be left with just one monthly payment to one lender, rather than juggling several payments with varying interest rates.

Debt consolidation can help you simplify your financial commitments and hopefully reduce the total amount of interest you’ll pay over time. When done as part of a plan to stick to a budget and reduce spending, debt consolidation can put you on the road to financial freedom.

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Can Debt Consolidation Hurt My Credit?

When you apply for any loan, your credit score may temporarily drop by a few points when lenders check your credit, indicating you are considering borrowing more. If you do open a new loan or credit card, the effect on your credit score will depend on your overall financial situation.

• If you use a personal loan to pay off credit cards, this can lower your overall credit utilization ratio and give your credit score a boost. 
• A loan might also diversify your credit mix, further improving your credit.
• Opening a new credit card might temporarily raise or lower your credit score, depending on your overall credit mix and how much of your available credit you are using over time.

Remember that any drop in your credit score should be seen against the long-term harm that unmanageable debt might have on your future creditworthiness. Your credit will likely improve over time as you demonstrate an ability to manage and pay down long-term debt.

If you have a loan with Pacific NW Federal Credit Union, you can view your FICO^® Score* anytime for free without affecting your credit.

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How Can I Consolidate Debt Without Hurting My Credit?

While the short-term impact of consolidating your debt on your credit score can be hard to predict, here are some smart things you can do to minimize a drop in your score and help your credit recover faster.

1. Pay Your Bills on Time

Always ensure you pay your bills on time. Late payments have an outsized influence on your credit score and can undo all the good work you are doing to manage your debt better.

2. Limit Hard Inquiries

Too many hard inquiries on loans and credit cards can lower your credit score. Shop around and do your research without formally applying, and if you do apply for more than one loan, do so within a window of a week or two to limit the impact on your score.

3. Maintain Older Credit Card Accounts

Consider keeping your oldest credit cards open to maintain a long credit history, which positively impacts your credit score. However, if there are annual fees on these cards then the costs may outweigh the benefits.

4. Monitor Your Credit Regularly

Check your credit report regularly to spot any inaccuracies or unauthorized activities. By keeping an eye on your report, you can act swiftly if there’s anything amiss that might hurt your credit score. You can access a free credit report here.

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What Are the Pros of Getting a Debt Consolidation Loan?

Debt consolidation is a big commitment toward building a better financial life. However, when done right, the benefits can include:

• A single, manageable payment that stays the same every month
• Lower interest costs over time, especially if you pay off high-rate bills with a low-rate loan
• Freeing up cash that you can use for education or other long-term investments
• A better credit score as you exchange frequent short-term borrowing for a longer-term loan
• The peace of mind of knowing you are on the path to financial stability

Check out our debt consolidation calculator to see how much you might be able to save on interest payments over time.

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What Are the Cons of Getting a Debt Consolidation Loan?

Debt consolidation can offer a way out of unmanageable debt. That said, it may involve some potential pitfalls, including:

• Paying more in interest over the life of a loan, even if monthly payments are lower
• Potentially losing your home or car if you use these to secure a longer-term loan
• The temptation to rack up fresh debt on your cleared credit cards
• A new loan application temporarily lowering your credit score
• Origination fees, balance transfer fees, or early repayment penalties adding to the cost of your loan or making it hard to pay off early

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When Is Debt Consolidation a Good Idea?

Debt consolidation is an effective strategy when used under the right circumstances. Here’s when it makes the most sense to consolidate your debts:

• Your high-interest debt is hard to manage, but you are not regularly missing payments
• You should have a dependable income that can cover a new monthly payment
• You are committed to changing your habits to reduce spending and avoid further debt 
• You have a goal—like buying a home, getting married, or starting a business—that managing your debt will help you achieve

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When Should I Avoid Getting a Debt Consolidation Loan?

While the prospect of becoming debt-free can be tempting, here are some situations when debt consolidation might be a bad idea:

• Your debt consolidation loan would have a higher rate than the loans you are paying off
• You are regularly missing payments or borrowing money to pay other debts
• You do not have a consistent or dependable source of income
• You struggle to resist the temptation to spend available credit
• Your credit score has already been significantly affected by your debt

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What Are the Different Types of Debt Consolidation Loans?

There are several ways to consolidate your debt. Compare these loan types to see which one might work for you.

1. Personal Debt Consolidation Loan

When people talk about debt consolidation loans, they are usually referring to personal loans. These are loans, usually from a bank or credit union, that can be used for anything you want—in this case for paying off your other debt.

Personal loans are usually unsecured. This means you don’t need to put up any collateral in the form of another asset such as your home or car, which can be seized to help pay off your debt if you fail to make your payments.

A debt consolidation loan should have a rate lower than any of your other outstanding debts, and will probably be payable over a longer period of time. 

By using money from this loan to pay your other balances, you’ll consolidate your debts into a single lower-rate bill for the same amount each month. While you may pay more in interest over time, a debt consolidation loan will allow you to actually pay off what you owe.

2. Credit Card Balance Transfer

If you are struggling to pay down your credit card debt, you might want to transfer it to a credit card with a lower interest rate, rather than taking out a personal loan. This can be an effective strategy provided you stop adding fresh card debt and work hard to make your payments. 

Many balance transfer credit cards also offer a lower or even 0% interest for an introductory period. This can provide a valuable opportunity to get ahead on payments that actually reduce your debt rather than just paying off interest.

For best results, you should look for a credit card with a lower rate than your existing cards and no balance transfer fees.

3. Home Equity Loan

Taking out a home equity loan or home equity line of credit is another way to pay off debt. When you borrow against your home you’ll get up to 30 years to repay a home equity loan, and a 5- to 10-year “draw” period to repay money borrowed on a line of credit before it resets to a higher rate.

You’ll also get a lower interest rate for this type of borrowing than on a personal loan or credit card because it is a secured loan using your home as collateral. But remember that this carries the risk that you could lose your home if you fail to make payments on your loan.

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Get Back on Track With a Pacific NW Federal Credit Union Loan

While taking out a debt consolidation loan is a big step, it’s also a commitment to building a better financial life for you and your family. When combined with a plan to reduce your spending and manage your finances, it’s a proven way to avoid the burden of long-term, high-interest debt.

Whether you need money to consolidate debt or to afford other expenses to help you get ahead in life, a personal loan from Pacific NW Federal Credit Union is designed to help our members achieve their financial goals sooner with low personal rates and flexible terms.

Contact us to talk about your financing needs, or click below to learn more about how our personal loans can help you manage your outstanding debt better.

View Our Debt Consolidation Loan Benefits & Low Rates