How personal loans affect credit scores

How To Improve Your Credit Score With A Personal Loan

How personal loans affect credit scores

Credit scores are an everyday factor in our lives, whether or not we’re aware of it. The better your credit rating, the more credit available to you and the less interest you will have to pay. If you have poor credit, you’ll have a harder time accessing affordable credit.

One way to improve your credit score is to take out a personal loan, since a personal loan could help you pay off debt or establish a good payment history. Here’s how.

Ways to build your credit score with a personal loan

There are multiple methods for using a small loan to build your credit rating. Two of the most popular types of personal loans to improve your credit score are debt consolidation loans and credit-building loans.

Debt consolidation loan

One of the more popular and strategic uses of personal loans is using them to consolidate debt. Imagine that you have three credit cards, each with an outstanding balance.

You’re making three different payments each month at three different interest rates.

What a personal loan does here is allow you to borrow the money needed to pay off all three cards and then pay that loan back with one payment per month, often while saving money in the process due to lower interest rates.

This can help your credit in a few ways. For one, if you pay off the balances of your credit cards, you’ll lower your credit utilization ratio — a key determiner in your credit score. You may also improve your credit mix, since credit-scoring models to see a variety of revolving debt, credit cards, and installment loans, personal loans.

Credit-builder loan

A credit-builder loan is a loan where you make fixed payments month over month toward the amount of the loan without receiving money in return. Once everything is paid, plus interest, you finally receive your funding.

These credit-builder loans can feel counterintuitive, as you don’t gain access to the borrowed money until after you’ve paid it off, but the real benefit is that you establish a history of timely payments, which the lender then reports to the credit bureaus. At that point, the money is yours without strings attached, completely paid off. It’s putting money into a savings account, but with the added benefit of a credit boost.

Keep in mind that a credit-builder loan isn’t right for everyone. You may have to pay fees to open the loan, and you’ll have to factor in any interest to the amount you pay each month.

Risks of using personal loans to build credit

While personal loans can be useful for improving your credit rating, there are also some risks that you should be on the lookout for. Before getting a loan to build credit, think carefully through these factors and make sure that taking out a loan is the right choice for you. There are three main risks to be aware of.

Any time you apply for a personal loan, you’ll initiate what’s known as a “hard inquiry” on your credit report. This inquiry will create a temporary drop in your credit score that will usually last for no longer than a few months. While one of these is manageable, it can become detrimental if you are shopping around for loans and end up with multiple hard inquiries on your credit report.

Gaining debt

Any loan that you take out is debt that you take on. It bears remembering that you shouldn’t take out a loan if the debt of it is going to push you into financial hardship.

Even when using your personal loan to pay off debt and reduce interest rates, it’s vital that you limit any spending behavior that would add more debt while you’re paying off your personal loan.

A downward spiral of debt is not a good place to be.

Associated fees

There’s more to pay on a personal loan than just the borrowed money and interest. There are fees associated with nearly every loan available. While they’re a minor cost compared to the loan itself, you don’t want to be blindsided by these fees. Make sure that you know what fees are associated with any loan before signing off on it.

Alternative ways to build credit

A personal loan is not the only way to improve your credit score. Consider the benefits and risks of alternatives, credit cards and joint accounts.

Secured credit card

A secured credit card is a special kind of credit card that uses money you’ve set aside in a specific account to serve as collateral against the line of credit that you have on the secured card.

A secured card’s credit limit is mostly based upon the size of the security deposit you make when applying for the card.

Because you could lose your collateral if you miss payments, lenders are more ly to extend this type of credit card to people with bad credit or no credit. Making regular payments, however, could boost your score.

Joint account

Co-signing on a loan or credit card can help build your credit, because when you co-sign, you share complete responsibility for the loan. If you and the other account holder make monthly payments, you can both benefit from the credit benefits.

Keep in mind that if the person you co-sign for misses any payments or defaults on the loan, then not only will it hurt your credit rating, but you will be legally responsible for making up the lost payments.

The bottom line

Personal loans can help you build credit if you use them to consolidate debt or establish a timely payment history. If you do choose to use a personal loan for credit building, remember to be conscientious of the risks involved and compare quotes from multiple lenders to ensure that you’re getting the cheapest possible loan for your situation.

Learn more:


How much does a personal loan affect your credit score?

How personal loans affect credit scores

Outstanding personal loan balances hit a record $305 billion last year, according to a study from credit bureau Experian. The report also found that personal loan debt is growing at a faster rate than auto loan, mortgage, credit card, and student loan debt, with the average balance of a personal loan clocking in at $16,259.

Still, taking out a personal loan can be a smart decision for some consumers, particularly for people who are going to use the money to consolidate high-interest debt at a lower interest rate, make necessary home repairs, or cover an emergency medical bill. Credible can help compare personal loan companies (and, hopefully, land you some of the lowest rates for what you're looking for).


The caveat: Taking out a personal loan can impact your credit rating in positive or negative ways depending on a number of factors. Here’s a look at how a personal loan can affect your credit score.

Triggering too many hard inquiries on your credit report

Each time you submit an application for a personal loan, the lender runs what’s called a “hard inquiry” on your credit, which entails an official pull of your credit report—a transcript of your credit history. A hard inquiry can ding your credit score by up to five points. Although a slight hit may not seem a big deal, filing too many personal loan applications can make a significant dent in your score.

Personal loans increase your debt load

Your debt-to-credit utilization ratio— a measure of how much debt you've accumulated divided by the credit limit on the sum of your accounts—comprises 30 percent of your FICO score.

Generally, you want to keep your total utilization ratio below 30 percent to maintain a healthy score.

But, because taking on more debt through a personal loan increases your debt-to-credit utilization, your score may get damaged in the process.

Missing personal loan payments

Making personal loan payments on time is crucial. Though missing a due date by a few dates won’t usually hurt your score, a 30-day late payment can drop your score up to 110 points if you've ever missed a payment on a credit account, according to data from credit analysis firm FICO.


Fair warning: Defaulted personal loans stay on your credit report for seven years. So, you need to be extra diligent about making your loan payments on time.

Building a positive credit history

Payment history is the most important factor in calculating your FICO score—it comprises up to 35 percent of your score, according to

If you’re consistent about making your personal loan payments every billing cycle, that will help you build positive credit history and raise your score over time.

Therefore, it’s important to set a monthly budget—and stick to it—to ensure you have enough cash to pay your personal loan balance in full each month.

Creating a mix of credit

Your score rises if you have a rich combination of different types of credit card accounts, such as credit cards, home mortgages, and personal loans, because credit mix makes up 10 percent of your score.


Reducing your credit utilization

Planning to use a personal loan to pay off revolving credit card debt? Doing so can help lower your “amounts owed,” or your usage of available credit, which makes up 30 percent of your score.

How to apply for a personal loan

Shopping around for a personal loan offer will allow you to find the best offer and walk away with the lowest rate.

You can make the process a whole lot easier by visiting Credible, which lets you compare personal loan quotes from multiple lenders in as little as two minutes, with rates starting as low as 4.

99% and loans ranging from $1,000 to $100,000. Plus, checking rates through Credible won’t affect your score, and it won’t cost you a penny.


You can also use Credible’s personal loan calculator to estimate how much you’ll pay for a loan and determine how long it will take you to pay it off.


How Personal Loans Impact Your Credit Score

How personal loans affect credit scores

Our goal is to give you the tools and confidence you need to improve your finances. Although we receive compensation from our partner lenders, whom we will always identify, all opinions are our own. Credible Operations, Inc. NMLS # 1681276, is referred to here as “Credible.”

Depending on your situation, applying for a personal loan can actually improve your credit. However, to reap the rewards, you need to make all of your monthly payments religiously and monitor your credit report, or your credit score could be negatively affected.

Find out how personal loans can affect your credit score.

Learn More: What Is a Personal Loan?

How personal loans can help or hurt your credit score

Having a good score can help you qualify for lower interest rates and save money over time.

Learning how to build credit is essential. Credit bureaus determine your score using five key pieces of data:

  1. Payment history
  2. Amount of money owed
  3. Length of credit history
  4. New credit
  5. Credit mix

When you take out a personal loan, that debt can affect all five areas, causing your score to increase or decrease in the following ways.

1. Establishing payment history

Credit impact: Helps your credit

Your payment history is the single biggest factor in determining your credit, accounting for 35% of your credit score. If you make all of your personal loan payments on time by the statement due date, you’ll have a positive payment history and your score can go up.

By contrast, missing even just one payment on your loan can damage your payment history and cause your score to go down. Continue making all of your payments on time, and avoid late payments, so you don’t fall behind.

2. Lowering your credit utilization ratio

Credit impact: Helps your credit

Your credit utilization — or how much of your available credit you’ve used — can account for up to 30% of your credit score. If you regularly max out your credit cards, your credit utilization is ly quite high, damaging your credit. You can improve your score by taking out a personal loan for debt consolidation.

Personal loans are installment loans, so they’re not considered in the credit utilization ratio. But using a low-interest personal loan to pay off your high-interest credit card debt is a smart way to lower your ratio and boost your credit.

3. Improving your credit mix

Credit impact: Helps your credit

Lenders to see that you can responsibly handle several different types of credit, such as credit cards, student loans, personal loans, auto loans, and more. Your credit mix determines 10% of your credit score. If you take out a new personal loan, you diversify your credit mix which can improve your credit.

Learn More: How Debt Consolidation Helps Your Credit

4. Introducing new credit

Credit impact: Can hurt your credit

Lenders get nervous when they see borrowers open new lines of credit in a short period of time. That’s why new credit affects 10% of your credit score. When you take out a new personal loan, it will show up as a fresh account on your credit report and can cause your score to go down slightly.

5. Adding new credit inquiries

Credit impact: Can hurt your credit

When you apply for a personal loan, it’s a good idea to compare offers from different lenders to get the best personal loan rates. However, to offer you a quote, most lenders will perform a hard credit inquiry, which can damage your credit. Credit inquiries can take up to five points off your credit score.

To minimize the impact of credit inquiries when shopping for a personal loan, get quotes at one time using a soft credit inquiry. Comparing personal loan lenders through Credible uses a soft credit check only — and this won’t affect your credit.

Finding a personal loan

Whether you have good credit or bad credit, you can weigh the pros and cons of taking out a loan and its impact on your credit. By making on-time payments, improving your credit mix, and lowering your credit utilization ratio, you can enjoy the benefits of a personal loan while improving your credit.

If you decide that a personal loan is right for you, make sure you compare several different personal loan lenders, including loan terms, loan amount, rates, and more. Credible allows you to compare the best personal loans at once, helping you get the best loan for your situation.

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