Key learning points
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A good credit score can increase your chances of approval and help you qualify for lower interest rates.
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Lenders also take your income, work and current debts into account when assessing your loan application.
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You can improve your score by paying on time, spending less, and avoiding taking on more debt until you need to.
Your credit score is one of the most important factors lenders consider when you apply for a personal loan. Many use it as an estimate of how likely you are to pay off the balance because it shows your payment history.
When you apply for a loan, reputable lenders will check your credit. The higher your score, the more likely you are to be approved and the lower your interest rate will be. If you have a score that is less than good (below 670), you will likely not be approved by most lenders. If you do, the rates are more likely to be sky-high.
How your credit score affects your chances of getting a personal loan
Having a good credit score – a FICO Score of 670 or a VantageScore of 660 – will show lenders that you know how to handle your debt and that you have a history of making on-time payments, among other things.
Because both scoring models take into account credit utilization, payment history and age of accounts, lenders can see how your finances have held up over the years. A good credit score reflects that, so if you have good credit, you’ll increase your overall chances of approval and qualify for lower rates.
There are lenders who offer loans to borrowers with fair or poor credit. However, these often have high rates, making monthly payments significantly more expensive. It can also be difficult to qualify if you don’t meet other eligibility requirements set by the lender.
Credit scores used to assess personal loan applications
There are two ways to calculate credit: the FICO model and the VantageScore model. Because they are private companies, they do not release specific information about how credit scores outside of broad categories are calculated.
They are also competitors and lenders may choose to use one over the other. Most use FICO, but check with your lender when you sign up. To increase your chances of approval, know both your FICO Score and your VantageScore before you start comparing lenders.
FICO Score vs. VantageScore
Each FICO score uses the model developed by the Fair Isaac Corp. Scores range from 300 to 850, with 300 being the lowest possible score and 850 the highest. The VantageScore uses similar categories as FICO, with scores ranging from 300 to 830.
| Factor | FICO weight factor | VantageScore weight | |
|---|---|---|---|
| Payment history | 35% | Payment history | 41% |
| Indebted amounts | 30% | Depth of credit | 20% |
| Credit history | 15% | Credit utilization | 20% |
| New credit | 10% | Recent credit | 11% |
| Credit mix | 10% | Balances | 6% |
| Available credit | 2% |
If both your Vantage and FICO scores are less than excellent, it is advisable to take all necessary steps to improve your credit before applying to avoid further damage to your score.
How to Increase Your Credit Score Before Applying
You should regularly check and be aware of what is in your credit report. Knowing this information is essential to maintaining a good to excellent score. If your score isn’t where you want it to be, there are many ways to improve it.
However, you can’t build your score overnight. A good score is the result of dedicated efforts to improve your credit habits and usage, which can lead to a good credit loan. To see lasting credit improvements, think of the following steps as long-term habits you need to develop.
- Lower your credit utilization ratio. Paying off your debts will lower your credit utilization: the amount of credit you have access to versus the amount of credit you are currently using. In both credit scoring models, credit utilization is a high percentage of the score breakdown.
- Focus on timely payments. Late payments will lower your score faster than any other negative number. Prioritizing your healthy payback is a surefire way to grow your score. Budget accordingly and take advantage of autopay to stay on top of your payments.
- Avoid new accounts. If possible, wait to apply for credit cards and other loans. While many lenders only allow you to check your potential rates with a soft check, a hard check is performed when you apply, lowering your score.
Other financial factors that affect your eligibility for a loan
In addition to your credit score, lenders will also consider your financial health and portfolio. Many lenders and institutions list the minimum financial requirements for approval, but not all will publish the exact details. That said, every aspect of your portfolio matters, including your income, employment, and debt-to-income ratio (DTI).
Income
Your income determines how much you can reasonably pay per month. A higher income – and less debt – shows the lender that you are more likely to pay off the balance within the designated repayment period. Many lenders allow more than one income stream, but you will likely be required to provide proof of income for each income stream. Some lenders allow applicants to count money from benefits, alimony or similar sources as income, which can increase your chances of approval if you have a lower or irregular income.
A stable, reliable income indicates that your finances won’t suffer from taking on more debt. Additionally, if you experience a sudden loss of income, you will have enough room in your budget to continue making payments.
Employment opportunities
You don’t necessarily have to be a full-time employee of a company to qualify for a loan. However, you will need to show a source of income or proof of work – and some lenders may prioritize certain types of work over others. If you are an entrepreneur, work in the gig economy, or have multiple streams of income, pay attention to specific documentation requirements when applying. For people with more than one place of employment, the lender may require multiple pay stubs or 1099 forms.
Current debts
No matter how high your income, lenders will want to see a low debt-to-income ratio (DTI). Credit.org claims that an ideal DTI ratio is at – or less than – 36 percent. You may still be able to get approved with a higher ratio, although each lender will vary in their requirements.
However, those with the lowest DTI ratios and the highest credit scores are likely to get the most competitive rates and terms.
it comes down to
Before applying for a loan, check your credit score to see what you qualify for and whether you meet the minimum requirements of most lenders. There are lenders that work with borrowers across the credit spectrum, including borrowers with low credit levels, but the loans are more likely to come with higher interest rates and unfavorable terms.
Your credit score is important when getting approved for a loan, but it’s not the only thing lenders take into account. To increase your chances of approval, research the lender’s financial requirements and know where you stand. If you don’t qualify, improve your credit or financial situation before taking on new debt.
