Debt Consolidation

Does consolidating debt affect my credit score?

Many people mistakenly believe that debt consolidation will automatically harm their credit score. However, this is not always the case.
Bruce Hodges
October 5, 2023
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Table of Contents

Does consolidating debt affect my credit score?

Are you struggling with multiple debts and wondering if consolidating them will impact your credit score? It's a concern that many people have, and understandably so. Your credit score plays a significant role in various aspects of your financial life, from loan approvals to favourable interest rates. In this article, we'll explore the question of whether consolidating debt affects your credit score or not. We understand the importance of maintaining a good credit standing while seeking relief from overwhelming debt, and we're here to provide much-needed clarity on this topic. So let's dive in and alleviate any worries you may have about taking steps towards consolidating your debts!

Understanding the Basics of Credit Scores

  • A credit score is a three-digit number that represents your creditworthiness.
  • It is calculated based on factors like your payment history, amounts owed, and length of credit history.
  • Generally, higher credit scores indicate better financial health and make it easier to obtain loans or lower interest rates.

How consolidating debt can affect your credit score

  • Consolidating debt involves combining multiple debts into one new loan or line of credit.
  • This process may initially cause a slight decrease in your credit score due to applying for new credit and closing old accounts.
  • However, as you continue making timely payments towards the consolidated debt, it can improve your overall payment history and potentially raise your credit score.

How Does Debt Consolidation Work?

Debt consolidation is a financial strategy that combines multiple debts into one single loan. This can make it easier to manage payments, as you'll only have to worry about making one monthly payment instead of several. To consolidate your debt, you'll typically need to apply for a consolidation loan from a bank or credit union. If approved, you'll use the funds from this loan to pay off all of your existing debts.

Once your debts are paid off, you'll be left with just one loan and one monthly payment to focus on. This can help simplify your financial situation and potentially lower the overall amount you owe each month. However, it's important to remember that consolidating debt does not eliminate it – you're still responsible for repaying what you owe.

It's essential to carefully consider whether debt consolidation is the right option for you before proceeding. While it can provide some relief by simplifying repayment terms and potentially reducing interest rates, there may also be fees associated with obtaining a consolidation loan. Additionally, if poor financial habits contributed to your high levels of debt in the first place, it's crucial to address these issues alongside consolidating your debts, so as not to accumulate further liabilities in the future.

Impact of Debt Consolidation on Credit Utilization

Debt consolidation can have both positive and negative effects on your credit utilization.


  • Lower Credit Utilization Ratio: By consolidating your debts into one account, you can potentially decrease your overall credit utilization ratio. This is because you'll have a higher total available credit limit, which can improve your credit score.


  • New Loan Application: When you consolidate debt, you typically need to apply for a new loan or credit line. This means the lender will perform a hard inquiry on your credit report, which could temporarily lower your score.


  • Debt consolidation should not affect your long-term credit score significantly if managed responsibly. However, it's essential to carefully consider the potential impact before deciding whether to consolidate your debt or not.

The Role of Payment History in Credit Scores

Your payment history plays a crucial role in determining your credit score.

  • Timely payments on your debts show lenders that you are responsible and reliable, positively impacting your credit score.
  • Late or missed payments, however, can have a significant negative impact on your credit score, making it more difficult for you to obtain loans or secure low interest rates.

It's essential to understand the importance of maintaining a good payment history when considering debt consolidation. While consolidating debt can potentially help improve your financial situation by making it easier to manage multiple debts, it does not directly affect your payment history.

To maintain a strong payment history during the debt consolidation process:

  1. Ensure timely repayment of the consolidated loan installments.
  2. Continue making regular payments towards other existing debts.
  3. Avoid defaulting or missing any future payments.

By practicing responsible payment habits during and after consolidating your debts, you can work towards improving and maintaining a healthy credit score.

Potential Effects on Credit Inquiries

  • Temporary decrease in credit score: When you consolidate your debt, lenders may need to perform a hard inquiry on your credit report. This can cause a temporary decrease in your credit score, typically by a few points. However, the impact is usually minimal and short-lived.
  • Long-term positive impact: Consolidating debt can have a long-term positive effect on your credit score. By paying off multiple debts and reducing outstanding balances, you demonstrate responsible financial behaviour which can improve your creditworthiness over time.
  • Streamlined borrowing process: Once you consolidate your debt, future lenders may view this as a sign of financial stability. Having just installment loan or line of credit instead of multiple debts makes it easier for them to evaluate your overall financial situation, potentially increasing the chances of obtaining new lines of credits or loans.

Remember that while consolidating debt doesn't directly affect your credit score in the long run, it's essential to maintain good repayment habits after consolidation. Making regular payments on time and avoiding excessive borrowing are key components for maintaining and improving upon good credit standing

Debt Consolidation and Credit Mix

When you choose to consolidate your debt, it can have an impact on the mix of credit types in your credit history. Your credit mix is one of the factors that influence your credit score. The more diverse your credit mix is, the better it can be for your overall score.

However, consolidating debt does not necessarily mean that your credit mix will suffer. In fact, if you continue to make consistent payments towards the consolidated loan or line of credit, it can actually help improve your credit mix over time.

It's important to note that other factors also contribute to your credit score, such as payment history and amounts owed. So while debt consolidation may affect your overall credit mix, its impact on your score is not solely determined by this factor alone.

How Debt Consolidation Can Improve Your Credit Score

Benefits of Debt Consolidation for Your Credit Score

Debt consolidation can have a positive impact on your credit score, offering several benefits that can help you rebuild and improve your financial standing:

  1. Simplified Payments: By consolidating multiple debts into one, you streamline your repayment process. This means fewer chances of missing payments or making late payments, which can harm your credit score.
  2. Reduced Credit Utilization Ratio: Debt consolidation allows you to pay off high-interest loans or credit card balances, which lowers the overall amount of debt you owe. As a result, it reduces your credit utilization ratio - the percentage of available credit that is being used. A lower utilization ratio demonstrates responsible borrowing behaviour and positively influences your credit score.
  3. Establishing Positive Payment History: Consistently making timely payments towards your consolidated loan shows creditors and lenders that you are reliable with managing debt obligations. Over time, this reinforces positive payment history on your credit report and boosts your creditworthiness.

Overall, by effectively managing debt through consolidation, individuals may find an improvement in their financial stability while taking steps towards rebuilding their tarnished record.

Common Misconceptions about Debt Consolidation and Credit Scores

Many people mistakenly believe that debt consolidation will automatically harm their credit score. However, this is not always the case.

One common misconception is that applying for a new loan or credit card to consolidate debt will lower your credit score. While applying for new credit may result in a temporary dip in your score due to the hard inquiry on your report, the impact is usually minimal and short-lived.

Another misconception is that closing old accounts after consolidating your debt can boost your credit score. In reality, closing accounts can actually have a negative impact on your score by reducing the length of your credit history and increasing your overall utilization ratio.

Bruce Hodges
Bruce, Founder and CEO of Parachute, worked for several of Canada’s top Banks, published research for the Canadian Bankers Association, and taught E-commerce Strategy in Wilfrid Laurier University’s MBA program. His first start-up built credit solutions for the likes of National Bank, Fair Isaac, and Ford Credit globally. Prior to starting Parachute, Bruce was COO of Foresters Financial, and EVP Transformation at CIBC, one of Canada’s top 5 banks. Bruce founded Parachute to disrupt the financial wellness space taking on payday, and high interest predatory lenders, with the intent to bring at risk Canadians back from the brink to good financial health.
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