How to Debt Consolidation Refinance Loan Affects Your Credit

A debt consolidation refinance loan allows you to pay off several of your debts with one loan, hopefully at a lower interest rate. In order to seek this type of loan, a borrower must be in debt to several lenders at a rate high enough to justify taking drastic steps. If the rate or the debt is not that high, the borrower may not want to risk the negative affects of loan consolidation. Consolidation and refinancing appears as a black mark on your credit score and financial reports.

Lenders Want Loans to Mature

When a lender extends a loan your way, the lender sets the terms based on the anticipated profits that will be gained when the loan matures. This means the interest is calculated based on a yearly percentage the lender will gain over a period of time. When you pay off a loan early, the lender does not receive interest for the years left on your loan. Most lenders build penalties and fees into the original loan contract to assure they make back a portion of the lost profits. However, they are still losing profit on your refinanced or consolidated loan. As a result, those lenders may not want to work with you again in the future. They will also report the activity to the credit bureaus so future lenders are aware of the situation.

Credit Reports Show All Debt

All debts, current and previous, appear on your complete credit report. When a loan matures and is paid off, the report shows favorable activity. When the loan is closed before it matures, this will also appear on your credit report. A lender can look quickly down the list of all of your loans and see how many you have paid off on time, how many you have paid off late, and how many you have paid off early. An early payoff can be just as bad as a late one to a creditor. If a huge portion of your loans were all paid off early in a short-span, the lender will know you used a consolidation loan. The lender will see you likely settled for less than was owed in addition to paying off the loan early. 

Future Lenders Are Wary

When a lender sees this activity, that lender will be less willing to work with you. You will be perceived as a high-risk borrower, even if your credit score is relatively high. You may have a large salary and good financial stability, but your credit report will still read as if you are a risk for loan modification. Some lenders will respond by not approving your loan. If you are in otherwise good financial health, most lenders will respond to the situation by approving your loan at much higher interest rates. The lenders will also likely build-in more severe penalties and fees if you seek to modify the terms of the loan before it matures. Overall, your future loans will suffer if you pay off your existing loans early. 



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