Can you build your credit score with a personal loan?
How can a personal loan build your credit score?
Personal loans can be flexible both in the repayment terms and what you choose to use them for. Unlike a credit card, you have pre-determined repayments clearly outlined to you to be paid over an agreed period of time. This solid structure can help avoid extra fees and charges for defaults or late payments.
Additionally, a consolidation loan is a type of personal loan used to simplify all of your loan repayments into one simple payment. This might be able to save you money on paying different interest rates and juggling multiple payments that likely fall due on different dates. You can use a consolidation loan to collate any credit you have, including credit cards or lines of credit.
Here are some ways that you using a personal loan can positively impact your credit score:
- Payment history: Demonstrating a consistent history of making on-time payments can make up to 35% of your credit score.
- The amount owed on loans: Using a consolidation loan can help improve your credit if it reduces your credit utilisation ratio. This can be calculated by dividing your credit card balances by their limits. For example, a $2,000 balance on a card with a $4,000 limit has a 50% utilisation rate. By reducing your percentage to 0%, you can increase your credit score. Additionally, your debt-to-income ratio can impact your chances of being approved for a loan. This ratio demonstrates the amount of debt you have compared with your income.
- Credit mix: Your credit score is also determined by how well you manage different types of credit. For example, someone that has used a credit card, a car loan, and a personal loan may be viewed more favourably by lenders than someone that has only used a credit card.
How to avoid becoming stressed by a personal loan
A personal loan can be a great tool to improve your credit score, if managed effectively. Some tips to avoid becoming stressed or overwhelmed by a personal loan can include:
- Work out your budget: To avoid overborrowing, work out how much you can comfortably afford to borrow. A budget could be a great way to visually see your income and expenses, so that you can calculate exactly how much you can afford to pay in weekly, fortnightly, or monthly installments.
- Pay on time: You will be able to set up a direct debit in line with your payment cycle to avoid worrying about when your payments are due. This ensures there is always money in your account on the day your repayment is due.
- Pay more than the minimum repayment amount: Lenders will typically give you a minimum repayment on your loan amount. Paying more than this minimum can help you repay your loan faster than your agreed loan term and may reduce your monthly fees and interest owing.
How can a personal loan damage your credit?
There are some instances of poor loan management in which you could damage your credit rating. It is important to understand these instances so that they can be avoided.
Submitting too many credit applications
When you submit a loan application with a lender, they will conduct a credit check which lodges a ‘credit inquiry’ on your credit report. If you submit too many loan applications within a short period of time, these will all appear on your credit report. This can put a ‘dip’ in your credit score. If you were rejected for a personal loan, it may be beneficial to find out why before applying for another loan.
Missing your repayments
If you end up missing your repayments or eventually defaulting on the loan, this will likely damage your credit score and make it more difficult for you to access financial assistance in the future.
Length of your credit history
Each time you take out a loan, it reduces the average age of your accounts, which can slightly decrease your credit score. For example, if you have had a credit card for 10 years and a car loan for 3 years, your average age of accounts is 6.5 years. If you then add a personal loan, the average goes down to 4.33 years.
Other ways to build your credit
Taking out a personal loan is not the only way you can build your credit. You may wish to consider these options alternatively or in conjunction with a personal loan.
Secured credit card
A secured credit card is a specific credit card that uses the money you have already set aside to serve as collateral against the line of credit. The limit is based solely on the size of the security deposit you made when you applied for the card. Because you have collateral on this card, and you would subsequently lose this if you missed your repayments, lenders are likely to offer this kind of credit card to you even with bad credit.
Co-signing a loan or credit card can also build your credit because you are sharing responsibility for the loan. If you and your account holder both make regular repayments, you can both benefit from your joint account. However, if the other account holder misses their repayments, not only can this negatively affect your credit score but you will be held responsible for making their missed payments.
Personal loans with Nifty Loans
Overall, it is clear that a personal loan can help build your credit if you consolidate your debts and/or establish a consistent payment history. Nifty Loans offers quick cash loans to eligible applicants from $500 to $10,000. Nifty Loans is an online lender, which allows us to deliver extremely fast and efficient service. We are one of Australia’s fastest lenders; we often deliver loan outcomes within 60-minutes* and support instant transfers on approval**.