Your Guide to Building Credit with a Personal Loan

In today's world, a strong credit score is essential. Whether you're looking to buy a house, finance a car, or even get the best rates on insurance, your credit score heavily influences your eligibility and the terms you receive. But did you know that personal loans can be an effective tool for building and improving your credit score? This blog will explore how personal loans work, their benefits, and how you can use them strategically to raise your credit standing.

Basics of Credit

Credit is a financial lifeline that allows you to borrow money with the commitment to repay it later, often with interest. It is a convenient way to make purchases when cash isn't readily available.

To access credit, you must request it from a lender, and approval depends on your financial history and trustworthiness. A "good credit" status indicates you have a solid track record of responsible financial management, with credit scores playing a pivotal part in reflecting your creditworthiness.

Basics of Personal Loans

Personal loans are unsecured loans that you can use for various purposes, such as consolidating debt, financing a large purchase, or covering unexpected expenses. Unlike secured loans, personal loans don't require collateral, making them accessible to a broader audience.

Curious how it works? A personal loan lets you borrow a lump sum from a lender, which you can repay in manageable, fixed monthly installments over the course of 6 to 48 months. The interest rates remain steady throughout the loan's life, meaning you know exactly what to expect for repayment each month!

When it comes to approval for personal loans, lenders often award more favorable terms based on your credit standing. This means that the better your credit score, the more likely you are to secure beneficial loan conditions, helping you save money in the long run.

How to Build Credit with a Personal Loan

Taking out a personal loan can seem like a big step, especially for those who are new to managing their finances. But don't worry! When you approach them thoughtfully, personal loans can actually give your credit score a nice bump. Here's more about how personal loans can help improve your credit score:

1. Payment History

Payment history accounts for 35% of your credit score. When you make on-time payments on your personal loan, lenders report this positive activity to the major credit bureaus (Experian, TransUnion, and Equifax). Consistently making on-time payments establishes a track record of responsible credit behavior, which can significantly boost your credit score.

2. Credit Utilization

Credit utilization—the amount of credit you're using relative to your available credit—makes up 30% of your credit score. Personal loans can help lower your credit utilization ratio by consolidating revolving debt, such as credit cards and lines of credit. As a result, lowering your credit utilization can positively impact your credit score.

3. Length of Credit History

The length of your credit history contributes 15% to your credit score. A longer credit history demonstrates your ability to manage credit over time. If you have little to no credit history, taking out a personal loan can help you start building your positive credit profile.

4. Credit Mix

Having a diverse mix of credit accounts—including credit cards, personal loans, and mortgages—can raise your credit score (10%). A varied credit mix shows lenders that you can responsibly manage different types of credit.

Potential Risks of Personal Loans for Building Credit

Like any financial solution has its drawbacks, personal loans come with risks if not managed properly.

• Impact of Hard Inquiries: When considering a personal loan, remember that each application results in a hard credit inquiry, which may temporarily lower your score. While just one inquiry typically has minimal impact if you maintain good credit habits, multiple inquiries can make things worse. Be sure to space out your applications to protect your score!
• High Interest Rates: Personal loans sometimes come with steep interest rates, particularly for borrowers with poor credit. This can make the overall cost of the loan significantly higher.
• Debt Accumulation: Relying on personal loans can lead to a cycle of debt if not managed properly, especially if loans are taken out to pay off existing debts.
• Missed Payments: Lenders will certainly notify the credit bureaus if there are any repayment issues with the loan. Therefore, late payments or defaulting on a loan can lead to a drop in your credit score, making it harder to obtain future credit. This is why you should only take out a loan only if you have a repayment plan in place.
• Some Lenders Don’t Report to Credit Bureaus: Not all lenders report your positive repayment history to credit bureaus. While many reputable lenders do, others only report negative behavior. This means if you make on-time payments with a lender that doesn’t report to credit agencies, you might not see the expected jump in your credit score.

Alternatives to Building Credit with Personal Loans

Personal loans might not always be the solution to your financial goals. But don’t worry—there are plenty of alternatives to explore! Here are some options you might want to consider:

Option 1: Credit Cards and Secured Credit Cards

Credit cards, when used responsibly, can help build credit. Secured credit cards, which require a security deposit, are an option for individuals with limited or poor credit history. Both types of cards can help demonstrate responsible credit use and improve your credit score.

Option 2: Pay Off Existing Accounts

If you already have open credit accounts, focusing on paying them off can improve your credit score. Ensure that your lenders report your payments to the credit bureaus, and prioritize paying off high-interest debt first. You can also use resources like our Credit Card Pay Off Calculator and Existing Loan Calculator to analyze your current credit accounts and plan your repayment of the remaining balances.

Option 3: Report Other Payments

Some services allow you to report alternative payments (such as rent, utility bills, and subscription services) to Equifax, Experian, and TransUnion. These payments can contribute to your credit history and signify your responsible financial behavior.

Key Takeaways

So, what’s the bottom line? If you have steady income and strong credit that qualifies you for low rates, a personal loan can be a smart move to improve your credit score and fund your financial goals. Just remember two key things: 1) Ensure that your lender reports your positive payment history to the credit bureaus, and 2) Be certain you can repay the loan before you apply.

On the flip side, if you lack a credit history or consistent earnings, it’s wise to think twice before diving into a personal loan. These factors can significantly affect your interest rates and your ability to pay it back. Choose wisely!

Where Can I Find the Best Personal Loan?

If you're ready to explore personal loans and take the next step in building your credit, consider opening an Express Loan¹ with Academy Bank.

The Express Loan is designed with your financial journey in mind, providing a flexible option to help you achieve your financial goals. Academy Bank offers competitive interest rates, which makes it easier for you to manage your repayments without overwhelming your budget.

Whether you are consolidating debt, covering unexpected expenses, or just taking that next step toward your financial goals, Academy Bank is here to support you every step of the way. Apply for a personal loan today!¹

Looking for other credit-building solutions? Explore our Credit Builder Secured Credit Card² and improve your standing with each transaction.

 

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¹ Subject to credit approval. Restrictions Apply. Direct deposit relationship required. Origination fee applies, 10% or $100 whichever is less. Annual Percentage Rate (APR) is based on credit score. Only one personal loan allowed to any borrower at any time. Loan terms are based on the loan amount.

² Subject to credit approval. Transaction and Penalty fees apply.  Credit Builder Savings account required. $5.00 quarterly fee charged to the Credit Builder Savings account if not enrolled in eStatements. Improved credit score is not guaranteed. Credit score is determined by credit reporting agencies based on multiple factors, but satisfactory performance on a credit card product can improve your credit score. Default on a credit card, including missed or late payments can damage your credit score. Once added, funds cannot be withdrawn from the Credit Builder Savings account and the Credit Builder Card without closing the savings account and the credit card.