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Personal Loan and Credit Score: How a Personal Loan Can Affect Your Credit Score

How a Personal Loan May Affect Your Credit Score
Sarah Li Cain

Sarah Li Cain

Updated December 29, 2021
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Editor’s note: Lantern by SoFi seeks to provide content that is objective, independent and accurate. Writers are separate from our business operation and do not receive direct compensation from advertisers or partners. Read more about our Editorial Guidelines and How We Make Money.
How does a personal loan affect your credit score? The answer depends on how you apply for and manage one. Used responsibly, a personal loan can be a helpful financial tool to fund a large purchase or consolidate high-interest debt. But used carelessly, a personal loan can become a burdensome debt. It’s hard to predict exactly how personal loans affect any one person’s credit score because it’s affected by so many factors. For example, your financial behavior or situation can affect your credit, plus different credit scoring models measure credit scores differently. So, what’s the relationship status of a personal loan and your credit score? It’s complicated — but with some care and attention, the relationship can be a healthy one. 

What Is a Credit Score?

A credit score is a three-digit number based on a scoring model that is used to predict your borrowing behavior. In other words, it predicts the likelihood you are to pay your debts responsibly. The scoring model is based on activity from your credit history, such as your history of debt payments, type of open credit accounts, any negative marks such as bankruptcy, and other factors. Most scoring models range from 300 to 850 — the higher your score, the more you’re likely to be responsible with credit. Lenders see a higher score as a good credit score, i.e., someone who is more likely to pay back loans on time and less of a risk. In effect, the higher your score, the more likely you will receive more favorable terms on a loan. 

What Is a Personal Loan?

A personal loan is a type of loan for which borrowers receive a one-time, lump-sum amount from a bank, credit union, or online lender. The loan is then paid back in monthly installments for the agreed-upon term until it’s fully paid off. The loan proceeds can be used for almost any purpose, though borrowers may be restricted from using the money for educational or business uses. There are two types of personal loans — secured and unsecured. A secured loan requires the borrower to put up some type of collateral, such as a vehicle or a savings account to guarantee the loan. If the borrower defaults, the lender has the right to seize the collateral. An unsecured loan doesn’t require collateral.  

Personal Loans and Credit Scores

Whether you’re applying for or paying back a personal loan, your financial behavior can affect your credit score. 

Can a Personal Loan Help Your Credit Score?

Having a personal loan doesn’t necessarily improve your credit score. Instead, the way you manage your debts can affect your score. Lenders typically report payment history to credit reporting agencies, which might help your score if you have a history of on-time payments. For instance, making consistently on-time payments shows lenders you’re a responsible borrower. This activity will be reported to the credit bureaus, which may in turn reassess your score. Since your payment history is one of the biggest factors affecting your credit score —  it could affect up to 35% of your score — making on-time payments can positively affect your credit. The opposite can happen if you’re late or miss a loan payment. 

Can Personal Loans Lower Your Credit Score?

Personal loans aren’t typically an automatic cause for a significant credit score decrease. But factors related to applying for and managing a personal loan may negatively affect your credit score.
  • When you submit a loan application, the lender will make a hard credit pull of your credit report to assess your creditworthiness. If there are multiple hard inquiries into your report, your credit score may suffer because lenders may interpret this as multiple loans being taken out.  
  • A hard credit inquiry may negatively impact your credit score and can remain on your credit report for up to two years. 
  • Regularly making late payments or missing payments altogether.
  • Using a high percentage of your available credit. 
Multiple hard inquiries into your credit report made in a short time period, generally within 14 to 45 days, will only be reported once, as it’s a sign of rate shopping, not taking out multiple loans. Depending on your financial situation, however, it may not affect your credit score at all.* Checking your rate with lenders who conduct soft inquiries during a prequalification process is one way to compare rates without your credit score being affected. When you decide which lender is your best choice, you can then submit one application. 

What Credit Score Do You Need for a Personal Loan?

Credit requirements for personal loan applications vary between lenders. In general, you’ll need to have sufficient credit history and meet the minimum score requirements set by the lender. Some lenders may approve a personal loan for an applicant with a poor credit score (a FICO® Score of less than 580), but their interest rate and term may not be as favorable as for an applicant with a very good credit score (a FICO Score of at least 740). 

Monitoring Your Credit Score

Your credit score can be a factor in many financial areas of your life, not just loans and credit accounts. 
  • Potential landlords may check your credit for past bankruptcies or foreclosures. 
  • Insurance companies may use credit-based scoring as part of their rate determination. 
  • Utility companies may check your credit report for payment history to determine whether to charge a deposit before connecting the service. 
Monitoring your credit score allows you to keep track of factors that may raise or lower that number.There are different ways you can check your credit score. Many credit card issuers offer this service for free. You can also request a copy of your credit report from the three major credit reporting agencies at AnnualCreditReport.com. Though you won’t see your score, you will be able to see what factors may affect it. 

Applying for a Personal Loan

Here are some typical requirements lenders ask for when applying for a personal loan:
  • The purpose of the loan.
  • Desired loan amount and term.
  • Proof of income (such as your employer name, pay stubs, or tax returns).
  • Personal details like your name, address, and Social Security number. 
Some lenders may ask for additional documentation like a copy of your utility bill or information about current loans. If the lender approves your loan, you’ll be asked to supply bank account details to receive the loan proceeds.

Can You Get a Personal Loan With Bad Credit?

There are lenders willing to lend to borrowers who have bad credit. However, compared to people who have high credit scores, you may find that you may not be able to choose from as many lenders and possibly have to pay higher interest rates. Waiting to apply for a personal loan until you can raise your credit score may result in more favorable loan terms.

The Takeaway

As long as you’re financially responsible by making regular, on-time payments, keeping your debt to a manageable level, and limiting the number of hard inquiries to your credit report, you probably won’t see much of an affect on your credit score merely by taking out a personal loan. No matter your financial situation, it can be a smart idea to compare multiple personal loan lenders to ensure you’re getting the best rates and terms that you can qualify for. Lantern by SoFi helps make it simple by providing a list of lenders to compare based on your financial profile within minutes. Then you can apply with the lender who is the best fit for you.Check your personal loan rates at Lantern by SoFi.
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About the Author

Sarah Li Cain

Sarah Li Cain

Sarah Li Cain is a finance writer and podcast producer focusing on topics such as credit, insurance, investing, and real estate. Her work has appeared in major publications such as CNBC Select, Forbes, Redbook, and Business Insider.
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