debt consolidation and credit score

Does consolidating debts hurt your credit rating?

Rustyshackleford14 asks on Reddit:

Hi Victor,

I have the following debts

Line of credit… $13,000 @ 8.99%; Credit card… 1,500 @ 9.99%; Car loan… about $16,000 remaining at 1.99% over 4 more years; OSAP… About $3,000 left, I think around 5% and around 3 years of payments remaining.

My buddy was in a similar situation, but I believe he was playing higher interest rates on his debts. He consolidated his debts for 8.99%

I have two questions…

I was once told consolidating your debts hurt your credit rating. Is this true?

Is the interest rate standard for consolidating? Or do they base it on the individual situation? The majority of my debt is below or around 8.99%, so if it was standard, I’d just end up paying more interest on my total debt, no?

Victor Fong, Licensed Insolvency Trustee in Toronto, Canada replies:

Hi Rusty,

To answer your questions:

It depends how you consolidate the debts. If you’re taking out a consolidation loan at a bank (at a lower interest rate than the debts you want to pay off) and you use the proceeds to pay off the higher interest rate debt, your credit rating will be unaffected. If you are consolidating your debts through a debt management plan with non-profit credit counselling agency, your credit will be affected. In Ontario, you will have what is called an R7 on your credit report (it means you’re making a consolidated debt payment); for reference, an R1 is the highest credit rating. If you’re consolidating your debt through a consumer proposal (which is a debt settlement under the Bankruptcy Act), you will have what is called an R9 on your credit report (bad debt, uncollectible) until your proposal has been paid in full.

If you’re consolidating by getting a lower interest rate loan to pay off the other debts, then yes, of course you’re paying interest. If you’re doing a Debt Management Plan with a credit counselling agency, the agency will usually try to get a reduction on the interest you’re paying. If you’re filing a consumer proposal, your creditors are legally prohibited from accruing any more interest on your debts. So in a CP, the amount settled would be based on outstanding balance at the date the proposal is filed.