When you need money fast, personal loans can be an excellent option. These loans have much lower interest rates than credit cards and they give you access to cash immediately. These loans are also a great way to build, or rebuild, your credit history. A personal loan has less impact on your credit score the way a cash advance from a credit card does, so it’s an excellent way to add positive information about your ability to repay a loan. However, since lenders will check your credit before approving you for a loan, this means that taking out a personal loan can actually hurt your credit score if you have bad, or no, credit history at all. This article explains everything you need to know about taking out a personal loan and how it could affect your credit score in the process.
What is a Personal Loan?
A personal loan is a loan you take out from a financial institution (like a bank, or credit union) that has to be repaid over a set period of time with interest. Personal loans are often used when you need money quickly and don’t have other options. If you need money for an emergency, such as a sudden illness, personal loans can get you the cash you need right away. These loans are also often used when you have to make a large purchase and don’t have the cash on hand to pay for it. Taking out a personal loan could give you the ability to buy the car, or TV, you want without putting the purchase on a credit card and incurring hefty interest charges. However, personal loans do have a downside: in addition to paying back the loan amount, you’ll also have to repay the loan’s interest. The amount of interest you’ll have to pay varies greatly, depending on the type of loan you get.
When Can a Personal Loan Be a Good Idea?
Personal loans can be a good idea when you need money quickly, don’t want to put the expense on a credit card, and have the ability to repay the loan at the end of the term. To be safe, it’s always a good idea to talk to a financial advisor about your options for financing any large purchases. Personal loans are quite similar to mortgages. When you take out a mortgage, you take out a loan to purchase a home and have to repay the amount you borrowed over a set period. Taking out a personal loan to make a large purchase is similar, but with a few key differences. First, you should keep in mind that while a mortgage can be a good way to build your credit history, a personal loan does not affect your credit score the same way and may even hurt your score as a loan adds to your overall debt, which can negatively affect your debt to income ratio. There’s a second major difference as well: Personal loans have lower interest rates than mortgages do. This means that even though you’ll have to repay the loan, you won’t be paying massive amounts in interest like people who take out mortgages usually do. It’s important to note that although personal loans alone don’t help raise your credit score, taking out a loan can affect your ability to get credit in the future as long as you repay the loan according to the terms set.
How Taking Out a Personal Loan Could Hurt Your Credit Score
Taking out a personal loan does have one negative side effect: It could negatively affect your credit score. In general, creditors report loan information to the three major credit bureaus (Equifax, Experian, and TransUnion) once a month. This means that taking out a personal loan could actually cause your credit score to drop as soon as the first monthly report is sent to the bureaus. Taking out a loan could cause your score to drop because the amount of available credit you have is factored into your score. The less credit you have available, the lower your score will be. Taking out a $10,000 personal loan would reduce the amount of credit you have available by $10,000. This could cause your score to drop significantly. If you don’t have any other credit history to speak of, taking out a personal loan could cause your score to drop to a very low level.
How to Build (or Rebuilding) Your Credit With a Personal Loan
If you don’t have any credit history at all, you can take out a personal loan, repay it on time, and build your credit history from scratch. Taking out a personal loan is a simple way to build credit since you may not have to make any payments on the loan right away. However, you should make sure to keep careful records of the loan amount and due dates. Taking out a personal loan, repaying it on time, and keeping records of your payments will help you build credit faster than if you don’t have any loans at all. Ultimately, it’s best to pay off any loan as quickly as possible, even if that means paying more than the monthly payment amount.
Conclusion
Credit is essential for everyone in today’s society. Whether you’re a student looking to go to college, or a homeowner who wants to take out a mortgage, you’ll need to have good credit in order to qualify for loans. In general, there are two ways to improve your credit: Pay down existing debt and take out new, small loans. Taking out a small personal loan can help you improve your credit if you make regular payments on time and/or pay off the loan early. When you need money fast, personal loans can be an excellent option. These loans have much lower interest rates than credit cards and they give you access to cash much faster.
