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Do I need a good credit score to apply for a debt consolidation loan?

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Claire Matthews

Financial Advisor, DCL

Do I need a good credit score to apply for a debt consolidation loan?

If you are struggling to overcome your credit card, medical bills, or other debts, you may already have a low credit score. Having multiple credit card accounts that are near the limit or making late payments can have a negative impact on your credit score, which may make it difficult to be approved for a traditional loan. While debt consolidation loans can help you get on the right path to overcoming your debt, it can also have negative consequences.

Getting Approved for a Debt Consolidation Loan

There are lenders who will consider applicants with a low credit score, although some do have a minimum score requirement. Most minimum requirements are around 640, but if your score is lower than that, you still have options to consider. The consequence of having a low credit score is that you will be charged a higher interest rate because the lender will be assuming a higher risk.

There are lenders who will consider applicants with a low credit score, although some do have a minimum score requirement. Most minimum requirements are around 640, but if your score is lower than that, you still have options to consider. The consequence of having a low credit score is that you will be charged a higher interest rate because the lender will be assuming a higher risk.

You may want to consider some our offers if you have a low credit score because they will accept some applicants with bad or poor credit. We have reputable lenders who are accredited by the BBB with the highest possible rating, so rest assured you will be working with a legitimate companies. The loan amount available is between $1,000 and $40,000, with APRs between 10 to 36%, and loans are typically approved and dispensed within one business day, which is faster than most other lenders.

There are other lenders who will approve a debt consolidation loan even if you have bad or poor credit, because lenders consider other factors, and if you have a low credit score, they can charge you a higher interest rate and increase their profit.

Other Factors a Lender Considers

Most lenders will consider more than just your credit score when you apply for a debt consolidation loan. They will also consider your debt to available credit ratio and your debt to income ratio. If your credit cards or other debts are near the credit limit, the less credit you have available. The lender will also consider your income compared to your monthly debt payments to determine if you can afford the loan payments.

Debt consolidation lenders also consider your payment history. If you have a high amount of debt but you make your payments on time, you are more likely to be approved for a loan. In addition, some lenders may have a minimum debt amount. For example, if you do not have more than $10,000 in unsecured debts, you may not qualify for a debt consolidation loan from certain lenders.

How to Raise Your Credit Score

There are many ways to increase your credit score, although it will take time and determination. Taking more responsibility for your spending and analyzing your finances can have a significant impact on your financial situation and allow you to reduce your debt without a loan. Increasing your credit score will save you money in the long run, because you will receive lower interest rates on any loan or line of credit you apply for, and you will be eligible for more loan options.

 

Reduce Your Amount of Debt

It won’t be easy, but it is possible to reduce your debt on your own without using a debt consolidation loan. If you analyze your expenses and make some cuts where possible, you can put more money toward paying down your debt. This can improve your credit score, which will allow you to get a lower interest rate if you decide to pursue a debt consolidation loan. Depending on your situation, you may realize that you can pay off your debt on your own in the same amount of time you would if you took out a debt consolidation loan.

Make Payments On-Time

Whether you need to set up automatic reminders or make your payments days in advance of the due date, it is essential to make your payments on time. Making late payments will be reflected in your credit score. If you have made late payments in the past, this could be negatively affecting your credit score. If you begin to consistently make your payments on time, this will raise your score and also eliminate additional late fees.

Stop Using Your Credit Cards

The only way to truly become debt-free is to eliminate the use of credit cards altogether. Once you overcome your debt, you may want to have a card to continue a credit history, but only if you can use it responsibly. Ideally, you should pay off the balance immediately to avoid paying interest charges. If you can keep a low balance that is significantly below your credit limit, then you may want to have a credit card. If you will be tempted to use them for unnecessary purchases or to make ends meet between paydays, you will only fall back into debt.

Know Your Credit Report

If you haven’t already done so, you should pull your credit report so you can see exactly where you stand in the eyes of a debt consolidation loan lender. Debts that have been passed over to collections will be reflected on your credit report, so be sure to pay those debts off first. Credit cards typically have the highest interest rates of most unsecured debt, so you will want to pay those off first. Reducing your balances will increase your amount of available credit, and this will help to raise your credit score.

Advantages and Disadvantages of a Debt Consolidation Loan

A debt consolidation loan comes with advantages and disadvantages, so it is important to be aware of both before making your final decision. This type of loan allows you to pay off your high interest debts while eliminating multiple monthly payments that come with having multiple credit card or other accounts. There are different debt consolidation loan options, so it can be a little confusing to identify the best loan for your situation.

The Status of Your Accounts

Some lenders may require you to stop paying on your accounts, be in default status or close all of your credit card accounts. All of these actions will damage your credit score. If the lender allows you to keep the accounts open, your credit score may go up because you will have a higher available credit amount. If you keep your accounts open, remember that the purpose of a consolidation loan is to eliminate your debt, so you shouldn’t use any credit cards while you are repaying a debt consolidation loan. Your goal should be to live credit-card free for several years or more, and only use a credit card if you can use it responsibly.

Interest Rates and Fees

The only way a debt consolidation loan is beneficial to your finances is if you get a lower interest rate than what you are currently being charged on your credit card balances, which can be difficult if you have bad or poor credit, although it is possible. Debt consolidation loans also come with a loan fee, usually between 2% and 5% of the loan amount, which will be added to the amount you owe in addition to the amount you borrowed.

Loan Payments and Terms

Before you decide to pursue a debt consolidation loan, you should also compare the monthly loan payments to your current payments. If the loan payments are not much less, then this may not be the best option for you. In addition, you should be aware of the loan term, because the longer the term, the more interest you will be charged over time. Most debt consolidation loans have a maximum loan term between 3 and 5 years, although some lenders may vary.

Defaulting on a debt consolidation loan can cause severe damage to your finances and your credit score. You want to avoid this at all costs. In most cases, one late payment will increase the interest rate on the loan balance for the remainder of the loan term, and you will also be charged late fees. Some loans may also come with a low-interest introductory period. When the introductory period expires, the interest rate may go up significantly.

Know the Details of Your Loan

Because debt consolidation loans have so much variation, it is important to know the specific details of a loan before you sign the loan agreement. Do not rush into getting a debt consolidation loan, because you may end up in a worse financial situation than before you received a loan. Be sure to use a reputable lender who will discuss the details with you up front before you provide any personal information.

If you take the time to analyze your finances, you will understand how much you will saving, if anything, with a debt consolidation loan. When used responsibly, a debt consolidation loan can help you overcome your debt, although it will take some time and sacrifice.

Is a Balance Transfer a Good Alternative?

A balance transfer refers to combining all your credit card balances into one credit card, which usually has a 0% introductory interest rate period. The transfer comes at a cost though, typically between 3% and 5% of the total transferred balance. While a balance transfer does allow you to eliminate multiple monthly payments, it may come at a significant cost.

Not only are you charged a fee on the balance, but once the introductory period expires, the interest rate will rise significantly. If you use a balance transfer to consolidate your credit card debt, you should be prepared to eliminate using the cards until you have the balance paid off. In most cases, a balance transfer is only beneficial if you can reduce the balance significantly before the introductory period expires. So this isn’t always the best way to consolidate credit card debt.

If you choose to use a credit card once you are debt-free, be sure to choose on with a low interest rate, make your payments on time and keep a low balance.

Other Options to Consider

A balance transfer is not the only alternative to a debt consolidation loan, but the other options are a bit more complicated.

Home Equity Loan

A home equity loan is also known as a second mortgage, which allows you to take out a loan using your house as collateral.  Even if you have bad credit, you can typically still get a low interest rate on a home equity loan. This is also known as a secure loan, because the lender can take possession of your house if you fail to repay the loan.

Borrow from Your Retirement Plan

Although this should be a last resort, most people can borrow from their retirement or make an early withdrawal from their 401K or other retirement plan. Of course, any amount you withdraw is considered income by the IRS, so you will have to pay taxes on that amount, in addition to fees for early withdrawal.

If your plan allows you to borrow money, it typically comes with a low interest rate, regardless of your credit score. After all, it is your money.

If you have bad credit and you are looking for a way to reduce your debt, you have many options to consider. While a debt consolidation loan is a good option for some, it may not be the best option for others, so it is important to make an informed decision. Even if you have bad credit, you still have multiple options to consider that can help you reduce or eliminate your debt.

It will take some time and you may have to make some sacrifices, but it will be worth it once you are debt-free and can live a life of financial freedom. If you decide a debt consolidation loan is the best option for you, be sure to read the fine print and know all of the loan details before you sign the loan agreement. In addition, you should have a pre-determined plan for making the monthly payments on time and to eliminate using credit cards altogether.

 

Claire Matthews

Claire Matthews

Financial Advisor, DCL

Claire is a noted financial writer and author of hundreds of articles about personal and business finance. Before getting her MBA, she graduated with a BS in Economics. Her coursework focused on the different ways that debt, debt structure, and debt restructuring affect micro and macro-economic issues.

Upon graduation, she took a job at an investment bank that worked with municipal and county governments to help them reorganize and structure their debt so they could continue to provide essential city services.

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