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Find out what effect consolidating your debts could have on your credit history.
If you’ve started to struggle with your debt repayments, you might be considering debt consolidation. This usually means taking out a new loan to pay off your existing debts so you only have one payment to make a month.
But what effect will debt consolidation have on your life? Will it affect your credit history like other debt solutions? Let’s take a look at how debt consolidation loans will affect your ability to borrow in the future – and who they might be suitable for.
How does it work?
There are different levels of debt problems. Some people find that they can’t cope at all with their repayments and they wouldn’t be able to pay off what they owe, even if their lenders froze their interest and charges. If you’re in this situation, you could consider a debt solution, such as an IVA, bankruptcy or a Debt Management Plan.
But if you can just about keep on top of your repayments, you might like to find a way of making them a bit easier to free up some cash, whilst making just a single repayment a month. In this situation, you could consider a debt consolidation loan.
This would mean combining all of your different debts into a single new loan – which could even be at a lower interest rate – and therefore you’d have just one monthly payment. However, you’ll pay it off over a longer period of time, so you could pay more back overall, depending on the interest rate.
Will it affect your credit history?
A debt consolidation loan won’t affect your credit history in the same way as debt solutions – if you keep up with the monthly repayments, that is. That’s because it’s not a solution like an IVA or a Debt Management Plan.
Under these solutions, you would break your original credit agreements and this would have an effect on your credit history. Your lenders would update your file to say you’ve defaulted on the payments, so even though you’ll be working towards getting debt free, it will affect your ability to borrow in the future.
With a debt consolidation loan, you’re not breaking any credit agreements – you’re just ending them by paying off the original loans and credit cards. This means you’ll only have to make one payment a month, rather than separate ones to each provider. Your overall amount of borrowing doesn’t need to increase either: your new loan can match the amount of debt that you pay off. That said, some lenders may still consider a large amount of consolidation to be an issue – this will depend on their criteria.
But if you don’t keep up-to-date with the repayments on your new loan, this will have an effect on your credit history. Missed payments and defaults will show on your credit history for six years and if you try to take out any other form of credit in this time, lenders will be able to see this when they credit check you.
How’s your credit history?
If you are behind on your repayments you’ll already have damaged your credit history. In this case, you might not be able to get a debt consolidation loan, or you’ll find it harder.
And if you’re really finding it a struggle to repay what you owe, a debt consolidation loan might not be the best option for you anyway. This is because it involves taking on another credit agreement and it can mean you end up paying more back in interest than you would do on other solutions.
What are your other options?
A loan isn’t the only form of debt consolidation though – a Debt Management Plan is another option. A Debt Management Plan might seem similar to a debt consolidation loan on the surface – you’ll make one payment to your unsecured debts each month and pay off what you owe over a longer period of time. However, they’re actually completely different.
This is because a Debt Management Plan doesn’t involve borrowing more money. You make one payment a month into the plan and the person or company managing your Debt Management Plan splits this between your lenders. The amount you pay depends on what you can afford once you’ve covered your essential bills. That means your monthly payment shouldn’t ever be unmanageable – if you start earning less, it may be possible for you to pay less in.
Reducing your monthly repayments by starting a Debt Management Plan has an effect on your credit history as you’re breaking your original credit agreements. Defaults will appear on your credit history for six years and this can make it harder to borrow in the future. However, your lenders may also agree to freeze your interest and charges, though they’re not under any obligation to do this. This means your debts will start to become more manageable and you can work towards taking back control of your finances.
As we mentioned above, there is a range of different debt solutions available – from a Debt Management Plan to an IVA or bankruptcy – and specific debt solutions for Scottish residents. It’s important that you talk to a debt expert before you decide which is right for you, so you can make an informed decision about the best way to tackle your debts.
If you want to find out more about the different forms of debt consolidation available, you can get free and impartial advice from the Money Advice Service. You can also get in touch with our debt advisors – just use any of the options to the left. They’ll be able to talk through your circumstances and help you decide which solutions – if any – are best for your individual situation.
by Emily BancroftBack to blog home