Is it better to consolidate or settle debt?

You’re probably familiar with debt consolidation, but what about debt settlement? Is there a difference, and if so, why choose one over the other? Let’s take a look.

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What is debt consolidation vs debt settlement?

Here’s the short version: 

• Debt consolidation is wrapping all your existing loans into one single loan and paying that off instead, ideally at a lower interest rate. 
• Debt settlement is negotiating with your lender(s) to reduce the amount still owed, usually with the help of a specialist company, and paying that off instead.

With debt consolidation, you still owe the same overall amount as before, but you’ve got a longer term or lower interest rate so your repayments are less.

With debt settlement, the actual amount you owe is lowered, which you then pay off in a lump sum or over a series of fixed payments (usually less than what the repayments would’ve been on the full amount).

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Which is better: consolidation or settlement?

Both debt settlement and debt consolidation are designed to reduce someone’s overall debt burden. Settlement cuts the total amount, while debt consolidation simplifies payments and reduces the interest rate. 

At first glance, it looks like settlement is way better because you’re reducing the total amount owed. However, debt settlement is really bad for your credit score which lenders use as part of their decision to lend to you in the future.

Basically, if someone chooses debt settlement, that makes their credit score go down. That can make it hard to get more loans in the future.

Debt consolidation doesn’t have the same issue. Debt consolidation can affect your credit score - in the same way that taking out any new loan can - but it doesn’t usually damage it to the same degree that settlement can.

That’s why it’s normal for people to investigate debt consolidation before debt settlement. Even if you never plan to take out a loan in the future and don’t care about your credit score, it may still be a good idea to have the option to borrow in your back pocket.

Plus your credit score is reviewed for more than just loans. Utility companies, phone companies and landlords may all ask for a credit score check. A bad score due to settlement can cut off your options.

There’s never a single silver bullet for every challenge with debt. Debt settlement and debt consolidation are just two tools that you should have in your toolbox. There are plenty more. Keep reading these tips and tricks grow your financial knowledge and make the dollars make sense!

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This was originally posted as an education article on the Money Sweetspot customer portal. If you read this as one of our customers, you would've earned some money off your loan! Do the mahi, get the treats. Find out more.

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