How does my credit score affect my loan chances?

Your credit score is one of the most important factors lenders consider when you apply for a personal loan. Many use it as an estimation of how likely you are to repay the balance, as it demonstrates 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 get approved, and the lower your interest rate will be. If you have a score less than good (under 670), you likely won’t get approved by most lenders. If you do, the rates are more likely to be sky-high.

How your credit score affects your chance of getting a personal loan

Having a good credit score — either a FICO score of 670 or a VantageScore of 660 — will show lenders that you know how to handle your debts and have a history of on-time payments, among other factors.

Because both scoring models take credit utilization, payment history and age of accounts into consideration, lenders will be able to see how your finances have been holding up over the last few years. A good credit score reflects that, so having good credit will increase your overall chance of approval and help you qualify for lower rates.

There are lenders that offer loans to borrowers with fair or poor credit. However, these often have high rates, making monthly payments significantly more expensive. They may also be difficult to qualify for if you don’t meet the other eligibility requirements set by the lender.

Credit scores used to evaluate personal loan applications

There are two ways to calculate credit: the FICO model and the VantageScore model. Because they are private businesses, they don’t disclose specific information about how credit scores are calculated beyond broad categories.

They are also competitors, and lenders may opt to use one over the other. Most use FICO, but when you apply, ask your lender. To increase your chances of approval, know both your FICO score and your VantageScore before you start the process of comparing lenders.

FICO score vs. VantageScore

Every 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 being the highest. The VantageScore uses similar categories as FICO, with scores ranging from 300 to 830.

If both your Vantage and FICO Score are less-than-stellar, it’s recommended that you take all necessary steps to improve your credit before applying to avoid further damage to your score.

How to boost your credit score before applying

You should regularly check and be aware of what’s listed on your credit report. Knowing this information is essential to maintaining a good-to-excellent score. If your score isn’t where you want it, there are many ways to improve it.

However, you can’t build your score overnight. A good score is the result of diligent efforts to improve your credit habits and usage, which can lead to a good credit loan. To see sustainable credit improvements, treat the following steps as long-term habits to develop.

• Decrease your credit utilization ratio. Paying down your debts will lower your credit utilization — the amount of credit you have access to versus the amount of credit you are currently using. Both credit scoring models have credit utilization as a high percentage of the score breakdown.
• Focus on timely payments. Late payments will lower your score faster than any other negative mark. Prioritizing your healthy repayment 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. Hold off on applying for credit cards and other loans if you can. While many lenders allow you to check your potential rates with only a soft check, a hard check will be done when you submit an application, which will lower your score.

Other financial factors that affect your loan eligibility

Beyond your credit score, lenders will consider your financial health and portfolio. Many lenders and institutions list the minimum financial requirements for approval, but not all will post the exact details. That said, every aspect of your portfolio matters, including your income, employment and debt-to-income (DTI) ratio.

Income

Your income determines how much you can reasonably afford to pay each month. A higher income — and fewer debts — shows the lender that you’re more likely to repay the balance within your set repayment period. Many lenders allow for more than one stream of income, but you’ll likely need to provide proof of income for each stream. Some lenders allow applicants to count funds from benefits, alimony or similar sources as income, which can increase your chances of approval if you have lower or irregular income.

A steady, reliable income communicates your finances won’t suffer from taking on more debt. Additionally, if you experience a sudden loss of income, you have enough room in your budget to keep making payments.

Employment

You won’t necessarily need to be a full-time employee of a company to be eligible for a loan. However, you will need to show a source of income or proof of employment — and some lenders may prioritize certain types of employment over others. If you’re an entrepreneur, a gig economy worker or have multiple income streams, pay attention to the specific documentation requirements during the application. For those with more than one place of employment, the lender may require multiple paystubs or 1099 forms.

Current debts

No matter how high your income is, lenders will want to see a low debt-to-income ratio (DTI). Credit.org asserts that an ideal DTI ratio sits at  — or below — 36 percent. You may still be able to get approved with a higher ratio, although every lender will differ in its requirements.

However, those with the lowest DTI ratios and the highest credit scores are most likely to be offered the most competitive rates and terms.

The bottom line

Before applying for any loans, check your credit score to see what you qualify for and if you meet most lenders’ minimum requirements. There are lenders that work with borrowers across the credit spectrum, including those with low credit, but the loans are more likely to come with higher rates and unfavorable terms.

Your credit score is important when getting approved for a loan, but it’s not the only thing lenders consider. To increase your chances of approval, research the lender’s financial requirements and be aware of where you stand. If you don’t qualify, improve your credit or financial situation before taking on a new debt stream.