In a perfect world we’d all have perfect credit. In the real world, however, financial setbacks can and do occur, oftentimes resulting in less-than-ideal credit. If you need a loan but are struggling with bad credit, you may have more options than you think — particularly with access to the right information. Read on to know more about navigating the world of bad credit loans and coming out ahead.
What is Bad Credit?
What, exactly, constitutes “bad” credit? It varies, depending on who you ask. For example, while personal finance website Nerdwallet declares a bad credit score to be one below 630, credit and identity protection service PrivacyGuard puts the number anywhere between 300 and 499. The takeaway? Bad credit may not be as clear-cut as you think, although many lenders will view you as a credit risk if your score is below 620.
FICO, a company that specializes in “predictive analytics” has become the global standard for measuring credit risk in the banking, mortgage, credit card, auto and retail industries.
Your FICO score is comprised as follows:
- Payment history (35% of the FICO score)
- Debt/amounts owed (30%)
- Age of credit history (15%)
- New credit/inquiries (10%)
- Mix of accounts/types of credit (10%)
As you can see, your payment history and amount of debts owed make up 65% of your credit score. So, if you have old debts you haven’t paid or if you have “maxed out” on your credit cards, both of those things will have a negative impact on your credit.
The age of your credit history translates into how long your credit accounts have been open. A longer credit history makes it easier for FICO to predict your long term behavior so long-standing accounts that are paid on time will most likely have a positive impact on your score.
The 10% new credit/inquiries that make up new credit and credit inquiries pertains to the amount of new credit accounts you open and the number of credit inquiries i.e. the time your credit has been checked, most commonly while applying for a credit card or loan. Having fewer credit cards and using around 30% or less of the credit available to you is recommended by companies such as Credit Karma.
The final 10% credit mix category is somewhat vague but experts agree that a mix of various kinds of credit (credit cards, personal loans, credit lines, auto loans) can make a borrower appear more favorable and capable of handling various kind of credit and “generally represent less risk for lenders.”
Getting a Bad Credit Loan
The first step in overcoming credit woes is the same: Don’t panic. Bad credit happens and — with the right strategies in place — it doesn’t have to be a major roadblock. The truth is that it IS possible to get a personal loan even with bad credit. While some banks or credit unions may not approve you with a low score, many lenders offer loan options for bad credit.
There is a catch, however: You can expect less than favorable terms with bad credit loans than if you had a stellar credit history. For starters, you will likely borrow at higher rates, which means you will end up paying more over the life of the loan. Loans for bad credit may also require a cosigner. Some lenders will also work with you to consolidate your debt into a single loan, although qualifying for this arrangement may rely on having an acceptable debt-to-income ratio.
One last thing to keep in mind when searching for loans for bad credit, is that they can differ significantly from lender to lender, so it’s critical to shop around. Additionally, be wary of bad credit loans which seem too good to be true. Reading the fine print can help you avoid hidden fees, penalties and rate changes.
The good news? While bad credit is a hindrance, it doesn’t have to be a permanent one. Once you do get a loan, you can immediately begin boosting your credit score by making full, timely payments.
But the opportunities for improving your financial picture don’t end there. While most negative items on a credit report fall off after seven years, why wait? The FTC’s five proactive steps toward improving your credit score offer a simple pathway to better credit and a better future, free of having to deal with bad credit loans.