Does Debt Consolidation Close Credit Cards When You Enroll?

Will using this service close all my credit cards or can I still keep them open? Laura L. Independence, KY

When and why does debt consolidation close credit cards?

Why does debt consolidation close credit cards?

When you enroll in a debt consolidation program – also known as a debt management program – creditors freeze your accounts. But in exchange, they agree to significantly reduce or even eliminate interest charges applied to your debt. Most clients get rates between 0 and 11 percent when they consolidate using one of these programs.

So, that’s the tradeoff that creditors expect. You can’t make any new charges on your existing accounts or get new credit cards until you complete the program. But you can get out of debt faster with total payments that are up to 30 to 50 percent less.

It’s also important to note that your credit counselors will help you set up a new budget when you enroll. The goal is to align all your expense with your income, so you don’t need to rely on credit cards. Studies show that many people get into challenge with debt because they use credit to cover daily expenses. People also rely heavily on credit to cover unexpected emergencies. If a budget builds in emergency savings and covers everything you need, it’s easier to break the credit habit.

Does any other type of debt consolidation close credit cards?

You may also run into account closures with some lenders if you apply for a debt consolidation loan. When you apply for a loan, the lender considers your debt-to-income (DTI) ratio. This measures total monthly debt payments versus total monthly income. Your ratio must be 41% or less to qualify for any loan. With a debt consolidation loan, they factor in the new loan payments and factor out your credit cards.

In many cases, the lender will simply approve or reject your application based on your DTI. However, if your DTI is high, some lenders may accept your loan application but only with caveats. They may require that you close all your accounts in order to secure the loan. That way, they have some assurance that you won’t just run up new balances.

The tricky part is that lenders aren’t always up front about lending restrictions until you formally apply for the loan. Lending agents can give you quotes, but underwriters may have additional requirements once you apply. The challenge is that once you begin a formal loan application, you’ve already authorized a credit check. That creates a hard inquiry on your credit report. Starting over with a new lender and new loan application creates another hard inquiry. Too many of these can actually hurt your credit score, making it harder to qualify for things like consolidation loans.

So, make sure when you’re asking for quotes if the lender places any restrictions on borrowers. This may help you avoid this situation.

Can I use debt consolidation without closing credit cards?

Yes, although it depends on your situation. If you have good credit and a limited amount of debt, you probably won’t need to close your existing accounts. You can use a balance transfer or even a debt consolidation loan without this restriction.

Getting a balance transfer credit card never comes with restrictions. If you get approved for the card, the creditor will not require you to close your other cards. And even with a debt consolidation loan, you may only face an account closure restriction in some cases.