A personal loan is especially popular owing to various uses and relatively simple and easy availability. It is an extremely useful way of covering unanticipated financial requirements or exigencies as it does not demand any security or collateral and the process approval is way faster than other credit options. Most lenders offer this credit option in your portfolio owing to the flexibility it offers you. While having a strong credit score is a must to obtain a personal loan, the opposite is even true. If managed carefully, a personal loan can assist you to ameliorate your credit score. Before you delve into understanding the relationship between personal loan and credit score, it is important for you to hold a fundamental understanding of both terms.
What’s a personal loan?
Personal loan is a kind of loan that is utilised to mitigate your personal financial requirements. It is provided to you based on your credit score, employment history, repayment capacity and other parameters. It is a common product owing to its relative ease of placing an application and disbursals. Few of the ways of using the personal loan are –
∙ Going on a vacation
∙ Family wedding
∙ Medical exigencies
∙ Renovation and construction
∙ Higher education
∙ Consolidating existing loan
Majority of personal loan come with basic eligibility criteria like employment history, age, documentation, monthly income and others. Note that to be eligible for a personal loan, your credit score is one of the crucial parameters factored in by any lender.
What’s credit score?
Credit score in your credit report infers a numerical representation assigned to you based on your past credit behaviour. It is just a number ranging between 300 and 900 that decides how credible you are. The closer you are to 900, the more prudent it is for you and vice versa. Your credit score is computed by the CIBIL TransUnion bureau depending on different parameters like your credit history, active credit accounts, past repayments, credit utilisation ratio and others. Note that CIBIL full form is Credit Information Bureau (India) Limited.
Listed here are the CIBIL score levels or credit policy and their interpretations.
Over 750 – This credit score is excellent. This shows that you have a responsible credit activity. Many lenders prefer you if you have a score of over 750 and provide you with the lowest rate of interest as you are less likely to default.
650 – 749 – This credit score is good. It means, you may have missed or delayed your repayments in the past. A lender may provide you with credit options, but at a little higher rate of interest and might even require additional documents.
550 – 649 – This credit score is average. Lenders might be hesitant to lend if you have this score as this shows some risky financial activity. If you fall in this bracket you need to enhance your score and can advance up the ladder if you maintain a good financial habit.
Less than 550 -This credit score is poor. If you fall in this category, then it is most probable that you have defaulted on your previous payments or have uncleared the dues. If you hold this credit score, you have a very slim possibility of availing a loan as this bracket indicates high risk.
As you can understand from the above score ratings, various loan products including an online loan will be available readily to you just if you hold a good credit score. Thus, you require ensuring that your score stays above a specific threshold to keep your credit options open.
Also Check: CIBIL Full Form
Ameliorating your credit profile via personal loan
The way personal loan is utilised may have a crucial impact on your score. When correctly used, a personal loan can considerably ameliorate your score. However, the opposite is even true. A poorly managed personal loan may cause a massive fall in your score. Here are different ways of boosting your score by using a personal loan –
Timely repayment
Debt payment on time is an indication of great credit behaviour. This shows financial responsibility and as an outcome enhances your credit score.
Debloating utilization ratio of credit
If you continually borrow to the highest credit limit possible, your credit score might suffer over a long term. Opting for an online loan can relieve a few of the strain on your card limit, enhancing your chances for more loan and credit score too.
Consolidating your prevailing debts
In case you are juggling with several credit options and distinct rates simultaneously, you can combine all of them in just one loan i.e., personal loan. Your monthly interest constituent outgo is lowered if your loan has a lower rate of interest than average of your existing interest rates. Lower the interest stress or burden, the easier it is for you to make your repayments, which assist your score over the long term.
Higher credit history
Having a lengthy credit history shows that you are a credit discipline and responsible individual. This assists to ameliorate your credit score and profile. You will hold zero credit history in case you never have borrowed earlier. Opting for a personal loan is a good way of beginning to form your credit history.
What are the credit behaviours that lower your credit score?
Piling of debt
Personal loan can be used to consolidate your existing debt, as mentioned earlier. However, in case you are someone with trouble staying financially disciplined while making debt repayment, then it may be considered a risky behaviour and can damage your score.
Multiple hard inquiries on your credit report
When you place an application for personal loan, then a hard inquiry is made on your report to decide your credibility. While a single or 2-3 inquiries will not have a massive impact on your score, multiple inquiries of more than 3 can. Hence, it is advisable to do your thorough homework beforehand while you apply for the loan.
Not selecting the correct lender
Availing a personal loan with a considerably high rate, processing charges and other charges can simply add on to your financial burden or stress. In this case, missing out or being late on even a single repayment may have a negative impact on your score. Thus, selecting the correct lender is of massive importance. Thus, before you go ahead with a loan, ensure to investigate the lender’s entire range of charges, service levels, etc. to decide the best one as per your preference.