How Your Credit Score Affects Personal Loan Approval and Rates

How Credit Scores Affect Loan Approval

When you apply for a personal loan, lenders evaluate your creditworthiness to decide whether to approve your application and what terms to offer. Your credit score is a three-digit number that summarizes the information in your credit report, helping lenders quickly assess the risk of lending to you.

Borrowers with higher scores are often seen as less risky and may receive lower interest rates and fees. If your score is on the lower end, you might still find lenders willing to work with you, but you may face higher costs or need to take steps to improve your credit before applying.

Sources: Experian, MyCreditUnion.gov (NCUA)

Understanding the Connection Between Credit Scores and APR

Your credit score plays a major role in determining the annual percentage rate (APR) you're offered on a personal loan. Generally, a higher credit score means you qualify for a lower APR, which translates to lower monthly payments and less interest paid over the life of the loan.

While the exact rate you receive depends on the lender and other factors like income and debt-to-income ratio, the correlation is clear: borrowers with good or excellent credit are more likely to receive competitive rates, while those with fair or poor credit may face higher rates or additional fees.

Improving your credit score by even a few points could potentially help you secure more favorable loan terms, as lenders reward lower-risk borrowers with better offers.

Sources: Experian, MyCreditUnion.gov (NCUA)

Credit Score Ranges Explained

Credit scores are calculated using different models. The two most common are FICO and VantageScore. Both range from 300 to 850, but their category labels differ somewhat. Knowing where you fall can help you gauge your likelihood of approval and what rates to expect.

The tables below show the typical ranges for each model, based on information from Experian.

• A "good" FICO score is 670 or higher, which is where you'll generally see better loan offers.

Sources: Experian, MyCreditUnion.gov (NCUA)

Understanding VantageScore Ranges

VantageScore is another credit scoring model that some lenders use. Its categories are slightly different from FICO's, as shown in the table below.

Sources: Experian

How to Check Your Credit Score for Free

You can access your credit reports and scores without harming your credit. Checking your own credit is a soft inquiry and does not affect your score.

The federal government provides free weekly credit reports from all three major credit bureaus through AnnualCreditReport.com. Many credit card issuers and financial apps also offer free access to your credit score, so you may already have a way to see it regularly.

Reviewing your credit reports regularly helps you spot errors or signs of identity theft that could bring down your score. If you find inaccuracies, you can dispute them with the credit bureau.

• AnnualCreditReport.com offers free weekly reports from Equifax, Experian, and TransUnion.
• Check with your credit card issuer or bank—many provide free credit scores as a customer benefit.
• Experian also offers free credit score access and educational resources.

Sources: Discover Personal Loans

Ways to Improve Your Credit Score Before Applying

If your credit score isn't where you'd like it to be, you can take steps to improve it before applying for a personal loan. Because these improvements can take time, plan ahead—ideally several months before you need the loan.

• Make all payments on time. Payment history is the most significant factor in calculating your FICO score, so even a single late payment can have a negative impact. Setting up automatic payments or reminders can help you avoid missing due dates.
• Avoid opening new credit accounts in the months before your loan application, as each hard inquiry can temporarily lower your score.

Sources: Experian, OneMain Financial, Bankrate

The Impact of Personal Loans on Your Credit

Once you take out a personal loan, it can affect your credit in both positive and negative ways. Knowing what to expect can help you manage the impact.

When you apply, a hard inquiry will be placed on your credit, which typically causes a small and temporary dip in your score. However, if you make on-time payments, the loan can help build positive payment history and improve your score over time.

A personal loan can also diversify your credit mix, which is a smaller factor in your score, and using the loan to consolidate credit card debt can lower your credit utilization ratio, which may further boost your score.

• A hard inquiry from applying for a loan generally remains on your credit report for up to two years, but its effect on your score typically fades within a few months.
• Making on-time payments on a personal loan is one of the most effective ways to build a strong credit history.
• Missed or late payments can significantly damage your credit; a payment that's 30 days or more late can be reported to credit bureaus and stay on your report for up to seven years.

Sources: Experian, Discover Personal Loans, TransUnion, OneMain Financial

Prequalification and Its Effect on Your Credit

Many lenders allow you to prequalify for a personal loan using a soft credit pull, which does not affect your credit score. This lets you see potential loan offers and rates before committing to a hard inquiry.

Prequalification is a smart first step because it helps you compare offers without damaging your credit. When you're ready to formally apply, the lender will perform a hard inquiry, which may cause a small, temporary dip in your score.

When shopping for rates, note that credit scoring models consider multiple hard inquiries for the same type of loan within a short period (typically 14 to 45 days) as a single inquiry, so rate shopping won't hurt your score as long as you do it within that window.

Sources: Experian, Discover Personal Loans, TransUnion, OneMain Financial