How to Use a Loan To Improve Your Credit Score
Nowadays, borrowing is becoming the norm of the day. In this economic downturn, most businesses and individuals are relying on credit to survive. Credit score becomes an essential factor in this context since it establishes a borrower’s creditworthiness and payment history. If you have a higher credit score, you are more likely to get a pre-approved personal loan or a credit card loan. Ideally, you need to improve your score so as to acquire an affordable loan. Also, the borrowing cost will be very low. However, improving credit scores is hard. Read on to learn how you can use a loan to improve your credit score.
What’s Credit Score, and What Factors Affect It?
A credit score is a three-digit number that evaluates your creditworthiness and your repayment capability. Usually, this score depends on your repayment history. If you were paying your bills on time, then the score will likely be high. Credit scores range from 300 to 900. In most cases, a lender will only offer a loan to a borrower whose credit score is above 700. Some lenders may not even accept applications with a score below 650. To be on the safe side, make sure your score is above 700.
The three major credit bureaus formulate credit scores and reports using the information received from a financial institution. Such data generally entail your repayment history, credit utilization ratio, types of credit card accounts, and frequency of applying for loans. Based on these details, the credit bureaus will determine your credit score. They update the score monthly.How to Use a Loan to Improve Credit Score
Below are the most popular techniques to improve your credit score using a loan:
- Build Payment History
Often, a lender will want to be assured that you can pay back the money you borrowed and on time. Showing your consistent repayment history through a loan will show lenders that you are a reliable borrower. As a matter of fact, your payment history makes up about 35% of the FICO score. Therefore, ensure you keep track of what you owe every month and pay on time.
Since payment history is a major determinant of FICO credit score, any late or missed payment will lower your credit score. With time, you will be surprised to find out that your credit score is below the minimum required for personal loan apply and approval.
- Manage Credits Responsibly
How you use credit will also show the type of borrower you are. Lenders will examine the types of debts you always borrow and how you tend to repay them to know your standing as a borrower. A short-term loan can help you demonstrate this, provided you only borrow a little money and stay on track with the payments.
- Increase your Credit History
Credit history makes up to 15% of FICO score. If you’ve no credit history or it is very low, lenders tend to be more cautious to offer you money. A loan may come in handy as it will extend your history and improve your credit score.
- Improve Credit Mix
On the other hand, credit mix will account for about 10% of your credit score. Multiple types of credit accounts will help your credit rating. If you have a few credit accounts in your history, getting a loan can help boost your credit score. Having a diverse portfolio of credits that you can responsibly manage will help improve the credit mix, thus boosting your score.
Types of Loans to Build Credit Scores
Apart from personal loans, there are other types of loans you can use to improve your score.
Debt Consolidation Loans
Just like its name, these are types of personal loans for consolidating debt. If you have four different credit cards, each with a balance and a higher interest rate, consolidating these debts into one debt will enable you to borrow money to pay all four credit cards under a single loan with one monthly payment.
This will help your credit score grow. If you pay the balances of the credit cards, you will lower the credit utilization ratio. Besides, it may also increase your credit mix as the credit scoring models will want to see you mixing revolving debts such as credit cards, installment loans, etc.
Credit Builder Loans
This is a special type of loan to allow borrowers to build their credit. Rather than giving a borrower a certain sum of amount, the lender deposits it into your locked savings account. The borrower will then be required to make a monthly installment in the next 6 to 2 years and the lender reports the progress to the credit bureaus. After the loan repayment is over, you get your amount with interest accumulated in your savings account.
The road to a higher credit score is a thorny one, where you are likely to encounter roadblocks. However, it is possible with a few quirks. Just build your credit history, increase your payment history, enhance your credit mix, and manage your debts effectively. In just a few steps, you’ll definitely make it and increase your chances of borrowing a loan.