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Keel Associates Discusses How Debt Consolidation Affects Your Credit Score

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According to CNBC, the average American carries $38,000 in personal, non-mortgage debt. This is a higher amount than in the past. Also, CNBC found that more people carry debt than in past years. Considering that about 26 percent of auto loans are subprime and are at around an interest rate of 15 percent or more and that most credit cards carry a similar interest rate, many people are treading in dangerous financial waters with very heavy, high-interest debt.

Keel Associates, a firm that specializes in helping consumers with debt problems, is often asked how debt consolidation affects a consumer's credit score. The answer is that it depends entirely upon how one works through the debt consolidation process.

What is a Debt Consolidation Loan?

According to Experian, a debt consolidation loan is a personal loan that allows the consumer to pay off a group of high-interest debts – such as credit card debts, auto loans, and private student loans – into one lower interest loan. The advantages are being able to attack more of the principal each month by having lower interest rates and having only one payment to make. If you are disciplined as you go through the debt consolidation process, you will end up paying off your debts and improve your credit rating.

Under What Circumstances Should I Consider Consolidating Debt?

According to the San Francisco Chronicle, consumers who are struggling to make payments on high-interest debts should consider debt consolidation if the loan will be at a lower interest rate and if the consumer has the discipline and financial ability to make the loan payments each month on time. Also, the consumer will need to refrain from using their credit cards to amass more debt.

How Could Debt Consolidation Help My Credit Score?

There are a few ways in which debt consolidation is done in a highly disciplined manner, will improve your credit score:

  • You will be able to make the lower payments, maintaining and improving your present credit score.
  • You will have paid off the credit cards with the loan proceeds, helping improve your credit score.
  • You will lower your credit utilization rate, also giving a boost to your credit score.

Let's look more at credit utilization rates. According to Experian, if you are only using 30 percent or less of all of the credit available to you, you will have a higher credit score because it is a sign you are responsibly using credit. People who have their credit sources maxed out end up with lower credit scores. Paying off your credit cards as a part of debt consolidation gives you a lower credit utilization rate, improving your credit score.

The caveat is that you need to refrain from using your credit cards while you pay off your debt consolidation loan.

How Could Debt Consolidation Harm My Credit Score?

There are about three ways in which debt consolidation could harm your credit score. The first way is just a small ding. According to Experian, when you first apply for the debt consolidation loan, you will have a credit inquiry come up on your credit score. If you are already at a high credit utilization rate, this will cause a small downturn on your credit score, but it will not last.

If you fail to make the debt consolidation payments in a timely manner, it will harm your credit score.

NerdWallet cautions that if you begin to amass more credit card debt while you are servicing the debt consolidation loan, you will increase your credit utilization rate and decrease your credit score. Also, you will likely be endangering your chances of being able to make your debt consolidation payments and putting your financial future back in order.

Tips to Succeed With Debt Consolidation and Improve Your Credit Score

According to NerdWallet, here are some tips to help you succeed with debt consolidation and improve your credit score at the same time:

Plan a budget: You need to ensure that you will be able to make the debt consolidation payments and not incur more credit card debt. Don't forget to include those expenses that occur only once a year, like a car registration and maintenance, and set aside an amount each month towards those expenses as well.

Put the credit cards away: You need to avoid carrying a credit card balance during the repayment of the debt consolidation loan. The best way to do this is to leave the cards at home.

Eliminate unnecessary monthly expenses: If you have video subscription services and cable television, consider alternatives that are free - like YouTube, Pluto television or over-the-air television. Skip Starbucks and restaurant dinners.

Create an emergency fund: Besides your monthly budget, your lower outlay servicing your debt will allow you to create an emergency fund for unexpected expenses. This will help you stay on track making your loan payments, even when things you haven't planned occur.

Consider a second income: If you can make a bit of money freelancing or in the gig economy to boost your income, it will help you to pay down your principal faster. It will also help you to ensure that you can make the monthly payments on your loan.

At Keel Associates, we specialize in helping consumers struggling under heavy debt. Contact us for help with debt consolidation loans and debt relief.

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