There are many things to consider before getting a personal loan, including how it will impact your credit. Depending on your credit profile, a personal loan may help your credit and your credit scores, especially if you are using the loan to pay down existing, higher interest rate debt. A personal loan can also make it easier to follow the golden rile of credit – paying your bills on time every month – because it can reduce the outflow of monthly payments.
Make Your Repayments On Time
But just like any new credit account, making your payment on time every month is critical to maintaining good credit scores. The key is to manage your personal loan experience so it impacts your credit in all the positive ways, and none of the negative ways – and reap the credit boosting benefits of doing so.
What Is A Personal Loan?
To understand the link between personal loans and credit score
health, knowing what a personal loan actually is the first step toward loan and
credit knowledge. A personal loan is a form of credit – usually issued by
banks, credit unions, or digital lenders – that can help you make a big
purchase, start a small business, or bundle high interest debt payment. As
personal loans typically have lower interest rates than credit cards, they can
be also used to consolidate multiple credit card debts into a single, lower
cost monthly payment.
While credit can be a robust financial tool, signing off on a
personal loan of loan is a serious obligation. Thus, before you decide to apply
for a personal loan, thoroughly measure the pros and cons that can affect your
unique credit scenario.
The Credit Score Advantages of Getting a Personal Loan
- It Lowers Your Credit Utilisation Ratio – A personal loan is an instalment loan. So the debt is not considered in your credit utilisation ratio. This is a calculation of all revolving debt compared with how much credit you have available to you. If you pay off revolving debt with a personal loan, it will lower your utilisation ratio. This can have a positive effect on your credit scores.
- It Adds Variety to Your Credit Type – According to FICO, there are five factors that determine your credit score: Payment history, credit utilisation ratio, length of credit history, new credit enquiries and credit mix. While credit mix only counts for 10% of your credit score, a personal loan can help by creating a more varied mix of credit types, which lenders and creditors tend to view favourably.
- You Will Establish a Payment History – In the long run, a personal loan could help your credit scores as long as you make your payments on time and in full. The more on time payments you have, the better your credit score.
- Debt Consolidation – Paying down balances on credit cards by bundling them into one, the lower interest rate loan is known as debt consolidation and can help boost your credit scores. The upside of getting a personal loan is that the most people will use the personal loan to pay down their credit card balances. This will save the consumer money in the long run because the interest rate on the personal loan is usually a lot lower than the interest rates that credit cards carry.