What Is the Impact of a Personal Loan on Your Credit Score?
You’ve probably seen everywhere different ads recommending personal loans and now surely wondered if they are as good an idea as everyone says they are. Like any other loan it can still have a big impact on your credit score, but what does that actually mean, and is this in a good or bad way? Keep reading to find out an answer to not only this but many more questions you probably have.
If you’re planning on getting a personal loan, one of the factors you should not overlook is the effect it will have on your credit score. There is really no simple answer to this, as there are a few different factors that play a key role we need to look at first. With that being said, in most cases, taking out a personal loan will have a good effect on your credit score if you are able to manage it responsibly.
One of the ways a personal loan boosts your credit score is by increasing your credit utilization ratio. This ratio is expressed as a percentage of your available credit that you can use at any given time. When you take out any loan, not just a personal one, and begin making payments, your credit utilization ratio will likely go up. Having a higher credit utilization ratio can actually be a good thing for your credit score. It will show your lender that you’re comfortable managing a larger amount of debt.
However, if you are late with your payments or decide not to pay them in full your score will drop significantly. Be sure not to max out on your credit limit as well as it will have the same effect.
Another way that a personal loan can have a good impact on your credit score is by giving you the opportunity to diversify your borrowing history. If you only had credit cards in the past, taking out a personal loan will show lenders you’re capable of handling different types of accounts and debts.
Don’t forget to factor in the amount of the loan and your repayment history as well. If you’re only thinking of taking out small personal loans and you have a good history of making on-time payments, then your credit score probably won’t be affected too much. However, if you’re taking out a large loan or you have a history of late payments, then your credit score could take a significant hit.
What Is a Personal Loan and How Does It Work?
A personal loan is a loan type that gives its borrowers the opportunity to take out much-needed funding and use it for a variety of purposes. A personal loan is usually an unsecured type which essentially means you don’t have to put down collateral like your house or some other asset in order to qualify for it.
They are often referred to as signature loans or good faith loans. Most people take them out in order to consolidate previous debt, for home improvements, or for some other major purchase. There are many different places you can get this loan from such as traditional banks or an online personal loans lender. Choosing an online lender can sometimes even give you an opportunity to find personal loans with no credit check but they do often come with high-interest fees.
Now that we covered what they are, let’s take a look at how does a personal loan work.
When you decide to apply for a personal loan the first thing is for the lender to look at your credit score. This will give them an idea of how creditworthy you as a candidate are. If your credit score is good the chances are the lender will give you a good offer and a low-interest rate. It’s still possible to get personal loans even for bad credit, but the chances are you will get a high-interest deal.
Personal loans are generally installment loans, which means you will need to repay them in equal monthly payments over the life of the loan. The terms of these loans can vary quite a bit, but they typically have shorter terms than other types, such as mortgages and auto loans.
What Credit Score Do You Need to Get a Personal Loan?
Many factors come into play when determining what credit score is needed for a personal loan.
The minimum credit score in order to even qualify is around 610 to about 640 but this can vary quite a bit depending on a lender.
If you decide to take out a secured loan, meaning you’re willing to put down collateral, such as a car or home, to secure the loan, then it’s likely you will not need as high of a score as you would need if you are to choose an unsecured type.
Taking a secured loan has another benefit as well, your credit score won’t be affected as much. On the other hand, if you’re taking out an unsecured personal loan, then your credit score could take a hit.
How Can a Personal Loan Boost Your Credit Score?
If you’re looking for a way to help you achieve a better credit score, taking out this loan can be a great option. By responsibly managing the loan and keeping up to date with all your payments, improvement should happen fast enough. In addition to this, personal loans can help you build a good credit history if you don’t have one established already.
Of course, taking out a personal loan also has some risks. If you miss payments or default on the loan, your credit score will suffer. That’s why it’s important to make sure you can afford the monthly payments before you even apply for any loan.
Overall, a personal loan can be a great way to improve your credit score if you manage it responsibly and budget everything. Just make sure you understand the risks involved before you sign on the dotted line.
How Can a Personal Loan Hurt Your Credit Score?
As we already discussed, taking out a personal loan can have many different effects on your credit score. After looking at the positive effects, let’s now take a look at the negative ones.
First, when you take out a personal loan, the lender will likely do a hard inquiry on your credit report. This can temporarily lower your credit score by a few points.
Second, if you miss any of your loan payments or can’t pay them in full, this will reflect on your credit report and could cause your score to drop significantly. Finally, if you decide to take out a personal loan to consolidate other debts, this could lead to a higher debt-to-income ratio, which can hurt your credit score. Overall, taking out a personal loan can have both positive and negative effects on your credit score.
In case you are currently considering taking out a personal loan, we suggest you take your time and research the specific effect it can have on your credit depending on your situation, before making any decision. Additionally, don’t forget to get familiar with the terms and conditions the lender is offering you just to be sure you are making a good choice.
Bottom Line
In conclusion, a personal loan will most likely affect your score and this can go both ways. As a general rule, in order to keep your score up, be sure to take care of all your monthly payments on time and in full. While we cannot tell you if this is the right loan for you, we gave you a good idea of what they are and how to apply for a personal loan. If you need any help in the process of finding the best personal loan deals to choose from, we suggest you talk to an experienced financial advisor to figure everything out.
