Can Installment Loans for Poor Credit Help Build One's Credit Score?

iQuanti: Installment loans can be a great option for borrowers with poor credit. Not only can these loans get you the funds you need quickly to cover expenses, but they can also help you improve your credit score by making on-time payments and adding to your credit mix. If you need money and are contemplating an installment loan, here are ways installment loans for poor credit can help get you fast cash while possibly helping to build your credit score.

How is credit score calculated?

It's important to understand how your credit score is calculated before considering how an installment loan can affect it. One of the most popular credit scoring formats, FICO, lists the following 5 factors that contribute to your score:

  1. Payment history (35%): The single biggest contributing factor to your credit score is the ability to repay loans on time. Each late or missed payment can lower your score in this area.
  2. Credit utilization (30%): The amount of credit you use vs. the amount of available credit you have determines your overall credit utilization. Creditors typically look for a score below 30%. That means if your available credit is $1,000, you should have less than $300 used at any given time. A higher ratio may make you appear riskier to future lenders.
  3. Length of credit history (15%): A more established credit history can look more favorable to lenders. And using, then paying off, credit regularly helps show off your financial responsibility.
  4. New credit (10%): Applying for a lot of new credit may appear risky to lenders. It's best to research the best lenders and loan options, then strategically apply for only the credit you need and will actually use.
  5. Credit mix (10%): Having different kinds of credit on your report, such as revolving debt (credit cards) and installment loans (personal or auto loans), can show creditors your ability to manage debt responsibly.

How installment loans can help build credit

An installment loan has a set repayment period that can range from a few months to a few years, with a predictable monthly payment. That means these loans can be easy to budget for. And committing to being a responsible borrower can improve your credit in these two key ways:

Improve your payment history by repaying the loan according to schedule.

Since payment history is the biggest contributing factor to your credit score, making monthly payments on time can help give your score a boost. Keep in mind that you'll need to pay the loan on time month after month before you see a bump in this area. You'll want to make sure that your lender reports on-time payments to the credit bureaus for this lift to occur. Setting up automatic payments through your bank can help ensure you'll get the maximum possible benefit. On the flip side, late or missed payments can negatively impact your credit score.

Add a new loan type to your credit mix.

Borrowers that don't currently have any installment loans may improve their score in the credit mix category by adding one. Since credit mix only makes up a small part of your score, you may not want to get a loan purely to improve this number. But if you need an installment loan for a big purchase or emergency expense and can commit to repaying it on time, you may also see an added boost to your score.

The bottom line

Taking out an installment loan for poor credit can help in your journey to improve your credit score. Being a responsible borrower and repaying the loan on time can help boost your score in payment history and credit mix. And as your credit score increases over time, you may be able to take on future debt at a better rate.

Notice: Information provided in this article is for information purposes only. Consult your financial advisor about your financial circumstances.

Source: iQuanti, Inc.

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Categories: Personal and Family Finances

Tags: credit, installment loans, loans, personal finance