Credit Building > Is debt consolidation worth it?

Is debt consolidation worth it?

Wollit Team3 minute read · Updated 1st July 2024

Debt consolidation is when you combine all your debts into one account. This lets you pay off many old debts using only one new loan. Your total debt won’t decrease, but it will be in one place, making it easier to manage. In other words, debt consolidation simplifies your payments by bringing them together into a single account.

Here is how to consolidate your debts:

Figure out the total amount you need to pay off all your existing debts: loans, credit cards, and overdrafts.
Once you have this number, apply for the debt consolidation loan.
If approved for the loan, use the money to pay off all existing debts, consolidating them into one payment.
After clearing your existing debts, you’ll only be left with the debt consolidation loan. Focus on paying it in full and on time each month.

What are the pros and cons of debt consolidation?

Debt consolidation comes with several advantages:

Having all your debt in one place makes tracking how much you owe and when payments are due easier. You’ll only have to make one monthly payment instead of juggling multiple small ones with different payment dates.
Consolidating can help protect your credit score by ensuring you don’t accidentally miss a payment.
If the consolidated loan has a lower interest rate than your existing debts, you might also be able to save money on interest over the life of the loan.

That doesn’t mean that debt consolidation comes without risks. Here are some of the main ones:

If the repayment period is too long, consolidating into a longer-term loan can lead to higher total interest payments over the loan’s life.
Debt consolidation loans often have extra costs, such as origination fees, balance transfer fees, and closing costs, which increase the loan burden.
Closing your previous accounts early may mean more fees.
Debt consolidation could also temporarily affect your credit score.

Will a debt consolidation loan affect my credit score?

Yes, a debt consolidation loan can affect your credit score. This can happen in a few ways:

Applying for too many loans at once can hurt your credit score. This applies to debt consolidation loans, too. Each loan application requires a hard check on your credit file. This hard check stays on your file for two years and can temporarily lower your score.
On top of this, having just one loan replace a mix of smaller loans also reduces what credit reference agencies call your “credit mix”. This, again, can impact your credit score.
Finally, failing to make your repayments in full and on time each month could damage your credit score. Consider setting up a Direct Debit to ensure you make all timely payments.

Can debt consolidation also help my credit score?

Taking out debt consolidation loans can also be a good way to maintain your credit score and history. Here’s how:

It can lower your credit utilisation ratio, which is a significant factor in calculating your credit score. This ratio looks at how much revolving credit (like credit cards) you use compared to the total credit available. A lower utilization ratio can improve your credit score.
Making on-time payments on your consolidated debt can also maintain or improve your credit score.
It can save you from accidental missed payments if you have many small credit accounts with different repayment dates. Having just one loan can make sticking to one payment date much easier.

What are the best alternatives to a debt consolidation loan?

Consolidation loans for bad credit are sometimes a good option. But there are alternatives if a bad credit consolidation loan won’t work for you or if you can’t get accepted for one:

Balance transfer credit cards.
Remortgage.
And if things are really bad, a debt management plan (DMP) or individual voluntary arrangement (IVA).

The first option would be a balance transfer credit card.

This is a great alternative if the debt you want to consolidate is on credit cards. A balance transfer credit card has a significant advantage – a promotional period during which you pay zero interest, which can be a reprieve from interest charges.

However, you may be charged an initial balance transfer fee. Once the promotional period ends, you’ll usually be put on the card’s standard rate. This rate tends to be relatively high, so you should have a clear plan to use this time to completely pay off your credit card debt.

The second option is a remortgage.

This involves switching to a new mortgage deal, often with a different provider. Of course, this can put your home at risk. If you miss payments, you might lose more than your credit score.

The third option is a debt management plan or individual voluntary arrangement.

These aren’t options to be taken lightly. While they can give you peace of mind and a reprieve from your debt, they can also hurt your credit score quite a bit and make it difficult to get loans and credit for at least the next six years.

Finally, you might notice ads from companies promising to help you wipe out your debt.

Be careful with these. Not only do they charge high fees, but you may end up with even more debt and a damaged credit report. Speaking to a reputable, non-profit debt charity is a much safer option. The main ones you should reach out to are StepChange and National Debt Line.

Can I consolidate my debts if I have bad credit?

You might not always be eligible for a debt consolidation loan if you have bad credit. You’ll have to pass a new credit check when applying for one.

To improve your credit score, consider downloading a credit-building app like Wollit. Wollit works by reporting a fixed fee monthly subscription as a loan repayment to the credit reference agencies. This allows you to safely build your credit history, giving you a chance to improve your credit score and get a debt consolidation loan on better terms in the future.