Consolidating your loans can improve your credit score

As the name suggests, a consolidation loan is used to pay off a number of existing loans by combining them into one single payment. There are several advantages when consolidating including the fact that you can improve your credit score!  Let's take a look at thow this works.

 

Open ended credit utilization

If you’re considering a consolidation loan, or interested in improving your credit score, you’re probably wondering how consolidating can help you.  One important factor that makes up your credit score is credit utilization.  To maximize your optimal score, it is best to only use 30% or less of any open ended credit you have available, such as a credit cards.  Maxing your credit cards to their limit or merely going beyond that 30% available credit threshold can not only mean higher payments, but a lower credit score.

The loans you include when consolidating are essentially being paid off, rolling the balances into a new loan.  Any credit cards, or other open lines of credit that are being paid off, bring your utilization to 0% for those loans thus bumping your credit score up, sometimes substantially.

 

Type of credit

Another element to your score is the type of credit used.  Subprime lending from finance companies are looked at as riskier types of financing when compared to credit union and bank loans.  When you take out a debt consolidation loan, it is best to include loans from a subprime lender, even if you are under a promotional period with an attractive interest rate.  By paying that debt off and rolling the balance to a traditional bank or credit union loan, you can lower your credit risk, increasing your score.

Payment history

With the most important part of your credit score being your ability to make on-time payments, what better way to stay on top of your bills than to stop juggling so many and focus on one easy monthly bill.  Most consolidation loans save hundreds, if not thousands, of dollars in interest so it not only gets easier to pay one low payment, but it’s easier to manage making you less likely to forget.

After consolidating, you should avoid the urge to close credit card accounts or lower any of your credit limits if you still have a balance.  Doing so may result in the lowering of your credit score.  Instead, you should aim to make regular payments on any credit card account after consolidation, even if it’s just gas to fill up your tank.  Avoid using your credit cards for unnecessary purchases which will increase your total debt and make it harder to manage.