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Will Debt Consolidation Affect Your Credit Score?
By LaMesaDuiLawyer | May 21, 2010
Debt Consolidation has received a bad reputation from some. Some people will tell you it is no different than filing bankruptcy. If you want to reduce your debt to income ratio and lower monthly payments considering debt consolidation may be scary with this information out there.
The truth is that debt consolidation is not the same thing as filing bankruptcy. Debt Consolidation proves you are taking steps to pay back your debts. Debt consolidation when you pay back 100% or a portion of your debt and bankruptcy usually results in you paying none of the debt.
There are different types of debt consolidation and they have different impacts on your credit score.
The Debt Management programs are for those who wish to eliminate their excess debt. The account agent will work with your creditors to agree to payment in full by accepting a smaller amount than is actually owed to them. Although this method is common for those who fall behind on their payments and are being hit with large late fees or penalties; It can have a very negative effect on your credit score.
A debt consolidation loan is used to pay back your debt and have only one payment. This loan will be large enough to pay your balances to your creditors in full and remain in good standing. This reflects well on your credit report and should have no negative impact on your credit score.
Your credit history length creates a portion of your total credit score. It is a small percentage but when you are working to get the best credit score possible it should be considered. When paying off your creditors in full and closing the actual accounts you may in fact be shortening your credit history length. Closing older accounts will have the largest impact. It is a good idea to pay the older debts in full but keep them open.
Before applying for a home loan or any large loan you should look at your credit report and your credit score. Monitor your score for any changes every time you pay something off. You will want to wait to apply for the loan when your score is as high as it possibly can be.
Keep in mind that if you pay a creditor a settled amount that is lower than the amount owed you will create a negative drop for your score. When you are paying the creditor the full amount owed it will result in a positive impact on your credit score.
You should ensure your debt to income ratio is low enough to afford another loan payment prior to applying for any loan. Make sure you have no late payments for at least 3 months before you apply. The oldest accounts should remain open to keep your credit history length from being shortened.
Debt consolidation can be a wonderful method for eliminating high interest debts if used wisely. Any time debt consolidation is used to negotiate debts it is still considered a default on the loan and your credit score will always be affected poorly. If you have to use a debt consolidation program be sure that it is your only option, you may qualify for a debt consolidation loan instead.
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