Does having a personal loan affect my credit rating?

Deputy Editor · 7 December 2020
Your credit score is one of the factors that reflects how risky you are as a potential borrower in the eyes of lenders. What could taking out a personal loan now mean for your credit score down the track?

The short answer is it depends on how you go about applying for and paying off the personal loan. As for the slightly longer answer, this article covers:

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How could a personal loan help your credit score?

If used responsibly, paying back a personal loan could have a positive impact on your credit score. Here are some ways you might be able to use a personal loan responsibly:

1. Consistently meeting repayments

One of the factors that credit agencies such as Equifax, Experian and Illion take into account when calculating your credit score is your repayment history on loans and other forms of credit, including buy now, pay later (BNPL) services. Demonstrating that you can consistently meet repayments on a personal loan over time could help you to build your credit score.

2. Consolidating debt

If you have multiple debts – for example, a number of personal loans and credit cards – consolidating them into one personal loan could ultimately be beneficial for your credit score. Having multiple credit accounts open at one time can be a negative factor for your credit score, so consolidating your debts using a personal loan (or a balance transfer credit card, which is another option) could make your repayments more manageable, and help you to pay off your debts in a specified term. The key is to make sure you consistently meet your repayments on the new loan.

How could a personal loan hurt your credit rating?

If you’re not careful, taking out a personal loan could damage your credit score. Here are some examples of how this could happen:

1. Making too many credit applications

Each credit application you make is typically recorded on your credit report and may have an impact on your credit score. If you make several personal loan applications in a short space of time, or you already have a number of open credit accounts, this could damage your score. For example, if your application for a personal loan is rejected, then it could be beneficial to wait until you have figured out why and iron out any issues before making another application.

2. Missing repayments

If you are approved for a personal loan but end up missing repayments, or ultimately default on the loan (not being able to pay it back at all), this could damage your credit score, and make it more difficult to access credit in future.

3. Choosing a higher-risk lender

If you apply for a personal loan, the type of lender you choose can be a factor in how your credit score is calculated. Generally speaking, an application for a loan with a payday lender could be seen as more of a risk than applying for a loan with a bank or credit union.

5 tips for responsibly managing a personal loan

Whether a personal loan ends up having a positive or negative impact on your credit score may well come down to whether you use the product responsibly. Here are some steps that may help you to do that:

1. Work out how much you can afford to borrow

To help you avoid borrowing too much and potentially having trouble meeting repayments down the track, it could help to work out how much you can afford to borrow comfortably. One way of doing this could be to create a budget that lists your regular income and expenses and then use that to calculate how much you could afford to make in personal loan repayments each week, fortnight or month. It could help to leave some buffer in your budget in case interest rates increase and your repayments go up, or your income or other expenses change. If your budget does not allow you to comfortably repay the loan, you may want to reassess whether taking out a personal loan is the right approach to take.

2. Look for a loan that offers good value

All other things being equal, it will generally be easier to repay a loan that comes with a low interest rate, low fees and features that offer flexibility – for example, a loan that allows you to make repayments weekly, fortnightly or monthly. To help you compare a range of loans based on Canstar’s expert ratings, you can use our personal loan comparison tables which show the Star Rating each eligible loan has received based on the loan amount and other factors you select. Bear in mind too that your current credit score may have an impact on the personal loan interest rate you are eligible for.

3. Make repayments consistently

If your loan is approved, it’s important to ensure that you make the repayments on time as they fall due. It could help to set up an automatic direct debit from your transaction account. If possible, it could also help to align your repayment schedule to when you get paid. For example, you could set it up so that your loan repayment comes out just after you get paid.

4. Consider making extra repayments if you can

Repaying the loan early could save you money in interest, and possibly regular fees too if they apply. So, it could help to pay a bit more than the minimum repayment each week, fortnight or month, if you can afford to. You could also make an ad hoc extra repayment if you have extra money to spare – if you get a tax refund, for example. If your loan has a redraw facility, you may be able to withdraw the extra repayments you have made if you need them. Make sure to watch out for any extra fees that might apply if you repay the loan early.

5. If you get into trouble, seek expert help

If you get into financial difficulty – your income falls, for example – it’s important to seek assistance as soon as you can. You could speak to your lender to explain the situation and they may be able to offer support. Alternatively, or as well, you could seek the help of a financial counsellor, who is qualified to offer advice to people who are struggling with their money. Free financial counselling is available, for example, through the National Debt Helpline (1800 007 007).

Cover image source: (Shutterstock)

This article was reviewed by our Sub-editor Jacqueline Belesky before it was updated as part of our fact-checking process.

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