Loans and Your Credit Score – The Do’s and Dont’s

Millions of people in the UK have a personal loan for one reason or another. A loan can provide financial help when an emergency or unexpected bill arises, or when financing for a big-ticket item is needed. They offer fixed repayment schedules and known costs in most cases, making repayment easier than a flexible credit card or another revolving credit account. Over the last few years, countless lenders have joined the ranks of personal loan providers, making it equally beneficial and confusing for consumers searching for a loan.

Loans and Your Credit Score – The Do’s and Dont’s - persona loan image

Having too many options for personal loans could lead to adverse effects on one’s credit score, without a borrower even realising their credit has been impacted. Here are several considerations when it comes to loans and your credit score, including what you should avoid and the steps you can take to get a loan in the right way.

What to Avoid

Your ability to get access to credit when you need it is one of the foundational aspects of a healthy financial life. If you are in need of a loan, it is beneficial to know how obtaining one will impact your credit score both now and in the future.

Applying for multiple loans at once – with a high number of lenders offering loans, it may be tempting to apply for several at one time to ensure the best repayment term and interest rate is obtained. However, responsible lenders complete a hard check of credit when a loan application is received. This credit check is visible on your credit report, and it can adversely impact your credit score. Having multiple hard checks on credit indicates you may be borrowing too much at one time, meaning your access to credit in the future could be negatively impacted.

Missing monthly payments – part of your credit score calculation is based on your track record of on-time payments. Taking out a loan can be helpful in covering urgent financial needs, but without a plan to repay the loan on-time until the loan term ends, your credit can be negatively impacted. Lenders and other credit providers want to know that you are a responsible borrower, and missing payments on a loan shows the opposite.

Using high-cost loans – loans come in many different forms, including short-term loans. While these may be easier to qualify for and have a fast turnaround time for receiving funds, the cost for short-term loans can be excessive. It may make more financial sense to review your options for longer-term loans as well as short-term loans, comparing both the cost you will pay for borrowing and the term you have to repay what you owe.

What to Do When Taking Out a Loan

Understanding what can negatively impact your credit score when taking out a loan is the first step. However, it is just as necessary to recognise what steps you should take to complete the process the right way.

Compare loan providers – according to a finance expert with Money Pug, a site used to compare payday loans online, a borrower should always take the time to review several different lenders before applying for a loan. Comparison sites make this task simple, providing quick and easy information about what lenders are currently offering, including interest rates, loan amounts, and repayment term options. This step helps you minimise the negative impact on your credit score by only applying for a loan that makes the most sense for you.

Read the fine print – lenders are required to provide specific details of the loan you are approved for before finalising funding. Be sure to take a close look at the loan terms, including the total cost of borrowing and the rate you receive, your repayment obligations, and any penalties that may be involved in paying the loan off before its term ends.

Understand what you can afford – as with any new credit account, borrowers need to first understand what their budget allows for repayment. As mentioned, missing payments will have a drastic impact on credit scores, and this negative information stays on a credit report for several years. Evaluate income and other expenses to determine what is affordable for monthly loan payments moving forward before signing on the dotted line.

Taking out a loan can be a helpful tool in getting through a financial emergency or financing a large expense. However, doing so has an impact on your credit in several different ways. Following these do’s and don’ts will save you from credit score headaches both now and in the future.