A bad reputation swarms around debt consolidation. Some think it is just as bad as filing bankruptcy. Hearing the poor information on debt consolidation can scare many people away from it.
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.
When you are shopping for a mortgage loan it is recommended to get your full credit report including your credit score. Watch your credit score to make sure there are no changes when you pay off debts. You want to apply for your loan after you increased your credit score to its fullest.
The things that will have the largest impact on your credit score are when pay a creditor any amount that is smaller than you owe, however when you pay the creditor the full amount that is owed your credit score will be affected in a positive way.
Your debt to income ratio should be low enough to show you can afford a new loan payment before you attempt applying for a loan. Before you apply you should also make sure that all your payments are current for at least 3 months. Keep those older accounts open if you are planning to pay them off so it will not shorten your credit history length.
Debt consolidation is an excellent way to eliminate high interest debt when used correctly. But anytime you default on any part of your debt your credit score will drop considerably.
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