Is a Debt Consolidation Loan Good For Your Credit Rating?

Firstly, let’s recap on what a debt consolidation loan is, and what your credit rating is.

What is a debt consolidation loan?

A debt consolidation loan is a loan you take out and use to pay off and close a number of smaller debts, leaving you with just one loan to repay. Basically it is a loan that is consolidating (combining) a number of debts together into one.

What is a credit rating?

Your credit rating (also called credit score) is a calculation tool used by lenders/ credit providers to determine if you are worthy to borrow. By using your credit report, which includes information such as previous loans and credit applications, overdue debts, defaults, employment and residential address history, a lender will review this information against their lending policies and criteria. Using this and their own scoring tools will assist them in giving an overall assessment.

So, is a debt consolidation loan good for your credit rating?

 In a word, yes. There are a number of individual benefits when taking out a consolidation loan, which include:

  • Your total monthly loan payment will often reduce
  • You only have one payment, rather than numerous (and that often due on different days)
  • The likelihood of missing a payment or defaulting should be less

But alongside this, now that Australia has introduced a comprehensive credit reporting system, this means that your credit report will now include positive information such as good repayment history, amount of credit you have applied for, and if a loan is still open or closed.

Let’s look at a simple example to explain this further.

Person A has two credit cards and car loan, which are as follows:

LOAN TYPE                          LIMIT              BALANCE

Credit Card 1                        $5,000             $1,900

Credit Card 2                        $5,000             $2,200

Car Loan                              $3,900             $3,900

TOTAL                          $13,900      $8,000

By taking out a debt consolidation loan, Person A would need a total loan of $8,000.

What would that mean for their credit report? With the new credit system, here is what Person A’s credit report could reflect:

  • Only one open loan for a total amount of $8,000
  • All three previous debts (two credit cards one car loan) closed
  • Total available debt has now reduced from $13,900 to $8,000

From a prospective lenders position, this indicates less debt and less number of loans so Person A’s credit rating would logically improve.

Important Do’s and Don’ts!

  • Do be disciplined, don’t go and take out more loans
  • Do ensure you meet your loan repayments and all other bill payments on time
  • Don’t miss any payments. This will be recorded on your credit file and negatively affect your credit rating/score

So, if you are currently in a position with a number of small debts, it may be worth you considering clearing them all with a debt consolidation loan. At Fair Go Finance we assist many customers with this type of loan, so please contact us if you would like us to review your individual circumstances and discuss your options.     

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