When Is Debt Consolidation Not a Good Idea?

Is a debt consolidation loan a good idea for your financial situation? Learn about debt consolidators and how they could help or hurt your credit with help from AmONE today.
A closeup of hands are shown, using scissors to cut up a credit card
Written by:
David Kirsch
Edited by:
Kristin Marino verified

Debt consolidation can be an ideal option for some debtors, but it is not necessarily the right option for everyone.

But how do you know if a debt consolidation loan is a good idea?

Most of us understand that debt consolidation would be a bad idea if you know you are not going to be able to meet the terms of the program, which can last upwards of five years, or if you are simply going to continue to do the same things that got you into debt in the first place.

However, there are other instances where using a debt consolidator may not be your best option including, including the following.

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Student Loans

Student loans have a number of features that allow borrowers to extend the periods of time for repayment, and in most cases, it is a good idea to pursue those avenues rather than making them part of a debt consolidation plan.

Federal student loans

If you have federal loans, your best bet is to keep them as federal loans rather than consolidate them through a private loan. However, the federal student loan program does have a loan consolidation program for those who want to consolidate their federal loans.

Consolidating your federal loans through Federal Student Aid has many benefits, including lower payments, a longer period of time to pay them off, access to forgiveness programs, and payment options based on your income.

Private student loans

You may also be able to consolidate your private student loans, but there are lenders that specialize in this type of debt consolidation. You can still receive some, though not all, of the same benefits of federal loan consolidation.

In general, the interest payments on a student loan are significantly lower than if you were to take out another loan and try to pay that loan. Since student loan companies are often more willing to work with debtors who are behind on payments, this option should always be explored before considering consolidating student loan debt.

Putting Your Home at Risk

With many debt consolidators, you are asked to put up some type of collateral. If that collateral is your home, you could wind up losing your home and still not have your debt paid off.

Chances are if you have spoken to any debt consolidation lenders, one of the solutions that have been offered to you is to take out a debt consolidation loan and allow them to put a second mortgage on your home or refinance your home and take cash out. Neither of these options is typically a good idea.

Home equity loan

If you are considering a home equity loan or a cash-out home refinance to consolidate your unsecured debt, you will essentially be putting your home up for collateral.

With a home equity loan, you take some equity out of your home in the form of a second mortgage. If you’re unable to make payments on the loan down the line, you can lose your house through foreclosure, even if you are current on your first mortgage.

This means not only will you still have debts hanging over your head, but you could also potentially lose your home as well.

Cash-out home refinance

With a cash-out refinance, you keep one mortgage, but it is for more money than it was before because you’re also using your home’s equity to pay off your unsecured debt. You end up with higher payments and perhaps a higher interest rate.

If you are cash-out refinancing, you are going to be paying for your home longer, meaning you will probably wind up paying more interest than if you were able to secure a personal loan.

In both cases, you are exchanging unsecured debt for secured debt.

Sometimes Lower Is Higher

Some debt consolidation loans offer what appears to be a lower interest rate, but after you are done paying all the associated fees, there is a chance you are actually paying more than you thought.

With some debt consolidation loans, there are origination fees to pay. They are usually applied in one of two ways:

  • Added to your loan, so you’ll pay the origination fee as your pay down your balance
  • Taken from the top of your loan, so the amount of money you receive from the loan is reduced by the fee amount

Don’t rush into a debt consolidation loan because you’re worried about making your next payments on your debt. Take time to learn about several lenders, and look for the best loan for your needs.

Origination fees aren’t necessarily bad, and a lot of good lenders charge them, just make sure you understand how paying one affects your loan.

You’re Concerned About Your Credit Score

If you’re really struggling to pay your bills and are not sure you’ll be able to qualify for a debt consolidation loan, you may be considering a debt relief or debt management program. While these can be great solutions to your debt problems if you’re considering bankruptcy, they can also show up on your credit score and have a negative impact.

Debt consolidation loans don’t have a negative impact on your credit score. If you pay your consolidation loan on time and as agreed, your credit report and credit score will reflect that in a positive way.

Compare rates and origination fees, and find a debt consolidation loan that’s right for you. 

Using a Debt Consolidation Loan to Free Yourself From High-Interest Credit Card and Other Debt

AmONE has debt consolidation options available to you.  Our debt consolidation loans are unsecured and we offer a whole range of products designed to help everyone, regardless of their personal credit history.

AmONE’s solutions, which have been developed over more than 15 years of experience, provide you with the peace of mind you need.  In addition, we have the skills and knowledge needed to help you with your debt consolidation needs.  We are a free matching service that allows borrowers to find the right lender to help their current situation. If you want more information about AmONE’s debt consolidators, fill out our online form today.

Debt Consolidation FAQs

How long does a debt consolidation stay on your credit report?

Typically debt stays on your credit report for up to seven years after it’s paid off. Assuming you pay the debt on time and as agreed, this is good. You want your future creditors to see that you are reliable and can pay your debts.

What should I do with my credit card after debt consolidation?

While you should stop using your credit card and cut it into little pieces to avoid using it or put it away where you won’t be tempted, you shouldn’t close your credit card account. In most cases, if you cancel your credit cards after using a debt consolidation loan to pay them off, it could harm your credit score.

Credit scores are partially based on how much credit you have versus how much you use. So if you have a credit card with a zero balance, your credit score will be favorable because you have debt available that you aren’t using. However, if you think you’ll be tempted to keep using your credit cards, it may be worth it to you to cancel your accounts and take the temporary hit to your credit report in order to work towards being debt free.