A low credit score should not prevent you from obtaining a personal loan to cover an emergency or consolidate your debts.
Borrowers with bad credit, which is a FICO score below 630, may need to do a little extra work to qualify for a personal loan. But taking these steps can not only help you get approved, but also get you a cheaper interest rate.
Quick tips for borrowers with bad credit:
Clean up your credit, reduce your debt
Before applying for a personal loan, get a copy of your credit report to see what the lender will see on it, says Washington-based certified financial planner Adrienne Ross. You can get a free copy of your report from the three major credit bureaus at annualcreditreport.com.
Details on your credit report can show you why your score is low and how to fix problems before a lender sees it.
For example, an overdue account is likely a red flag for a lender, but you’ll have a better chance of qualifying if you can spot it and make the payment before you apply, Ross says.
Lenders also take into account the percentage of your monthly income that is spent on paying down debt, called your debt-to-income ratio. You’ll need a DTI of less than 50% to qualify with most lenders, and less is often better.
If you don’t urgently need the loan, pay off the debt before you apply, Ross says. Not only will lower outstanding balances lower your DTI, it will also lower your credit utilization, which is the amount of your available credit you use and a primary factor in calculating your credit score.
Add a co-signer or guarantee
A faster solution may be to choose a lender that allows you to add a co-signer. A willing friend or family member with good credit and a solid income can help you get approved, says Thomas Rindahl, CFP at TruWest Wealth Management Services in Arizona.
Walk lightly with co-signed loanshe says, because the person you add to your application will have to pay the loan if you can’t.
Some lenders may also offer secured personal loans that require you to pledge something you own, such as a vehicle or a savings account, he says. Borrowers with fair or bad credit may have a better chance of qualifying and getting better rates with a secured loan, but the lender may forfeit the collateral if you don’t make your payments.
Make a repayment plan
Choose a lender who reports your loan repayments to credit bureaus, as this can help you establish credit, Ross says. That means the next time you borrow money or apply for a credit card, you might get a lower rate.
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But since lenders report both on-time and missed payments, your ability to make them will determine whether your credit improves or deteriorates.
Be prepared to ask questions about rates, terms and additional fees so you understand exactly what you’ll need each month and when you’ll need it, says Ross. Knowing this will help you make a plan for manage your payments.
Even with a solid payment plan, you might find yourself behind on a payment or two along the way. Since lenders don’t immediately report late payments to the credit bureaus, Ross says, make the payment as soon as possible to prevent your credit from being hit.
Comparing offers from online lenders, banks, and credit unions can help you find the best rate and features for your situation.
Some online lenders offer personal loans specifically for borrowers with low credit scores. Look for reputable lenders who cap their annual percentage rates at 36%, which consumer advocates and financial experts say is the highest rate an affordable loan can have.
Borrowers with bad credit will likely qualify for rates close to a reputable lender’s rate cap, but nowhere near the 300% or more APR offered by payday lenders.
Online lenders can also allow you pre-qualified with a soft credit check, letting you see the rate and loan amount you could get without hurting your credit score. Many banks and credit unions require borrowers to make a formal request to see their offer, which triggers rigorous verification that can cause your score to drop temporarily. Some online lenders can also fund a loan the same or next day, while a bank can take a week or more.
On the other hand, your community bank or credit union may be more willing to look into the circumstances if a recent misunderstanding or a years-old problem is lowering your credit score, Rindahl says.
“An online lender may have competitive rates, and it may be easy because you can apply from home, but if you don’t match their algorithm, you don’t match their algorithm,” he says. “Your local institution, whether it’s a credit union or a bank, is much more likely to consider the whole person,” he says.
About the Author: Annie Millerbernd covers personal loans for NerdWallet. Read more