How Do Personal Loans Impact Your Credit?

With the number of different loan types available, it may be difficult to understand which loan option is best for your needs, especially if you want to maintain a good credit score.

Personal loans offer numerous benefits, and are a good option for those who care about flexibility and improving their credit. But before you start applying for loans, it’s important to understand how a personal loan can impact your credit score. 

What Are Personal Loans?

Although personal loans can be used for almost anything, some lenders restrict their use from being used on college tuition, existing student loans, a down payment on a home purchase, or business expenses.

Whether you want to hit the beach on vacation, plan a wedding, buy new tires, add a lift kit to your truck, pay vet bills, get new tires, or consolidate debt, a personal loan can be a great choice. 

A personal loan can be a good option if you need some quick cash because they typically offer lower interest rates than credit cards but higher interest rates than secured loans like auto loans or mortgages.

How Personal Loans Can Help Your Credit

Using personal loans can improve your credit score depending on your personal credit history and current financial picture. 

Build Positive Payment History

A personal loan can help you establish a positive payment history when you make your loan payments in full and on time. A good payment history can help improve your credit score over time because it proves to creditors that you are reliable and can pay back what you owe. 

Reduce Your Credit Utilization Ratio

Personal loans can be used to pay off revolving high-interest credit, like credit card debt, which can help you improve your credit scores. One part of your credit score is your credit utilization ratio, which is a measure of how much of your available credit you’re using. Because personal loans are installment loans, they aren’t factored into your credit utilization ratio. 

How Personal Loans Can Hurt Your Credit

There are some potential downsides to personal loans. If you’re not careful, it could have a negative impact on your credit, depending on your personal credit history. 

Creating Inquiries on Your Credit Report

When you apply for credit, lenders check your credit with a hard credit check. A lender check on your credit creates an inquiry on your credit report, which can hurt your credit score. This negative impact typically only stays on your credit report for a few months, but a lot of inquiries in a short period of time can have a greater impact on your credit that can last for up to two years. A hard credit check can drop your credit by five points or less, according to Experian.  

Getting Deeper in Debt

Taking out any loan means taking on more debt. If the amounts owed on your debt are too high, lenders can also see you as a higher risk for future lending. If you’re planning on using a personal loan to pay off higher-interest debt, you should make sure that you’re not going to incur more debt in the process.

Late Payments

Borrowing responsibly is important to avoid negative effects to your credit score when taking out a personal loan. Struggling to make payments can negatively affect your credit the most if you struggle to make payments. Late payments of a certain time frame are reported to credit bureaus by lenders. You’ll also have to pay late fees if you’re unable to make your payments. 

When to Consider a Personal Loan

Personal loans can be used for a variety of things, but there are a few situations where personal loans may be especially helpful. 

• Need to Pay off High-Interest Debt. Personal loans tend to have lower interest rates, which makes them a great way to pay off other debt with higher interest rates. 
• Medical Bills. If you have high medical bills that need to be paid, a personal loan may cover the costs needed to cover your medical debt. 
• Unexpected Expenses. If you don’t have enough money to cover a costly emergency, a personal loan might be able to help you get through a tough time and make the necessary payments.
• Large Purchases. If you have a large purchase that you can’t pay for upfront, a personal loan can help you make the purchase. With a personal loan, you can pay off the purchase with interest over time in small payments. 

Apply for a Personal Loan Today

A personal loan can be a good option if you need more money than you currently have access to for a variety of reasons. They are a great way to cover expenses and purchases or be a low-interest way to pay off existing debt.

Arkansas Federal offers personal loans with a variety of term lengths so you can customize them to fit your needs. You get access to money quickly and repay your loan with fixed, predictable payments.

Contact one of our local branches to learn more, or apply online today to see if you qualify for a personal loan with Arkansas Federal.  
Arkansas Federal Credit Union offers personal loans with competitive rates, fast approval, and affordable payments. Contact one of our branches to learn more, or apply today and get the money you need within hours.