Should You Improve Your Credit Score Before Applying for a Personal Loan

Personal loans can be used for a variety of expenses, from car or home repairs to weddings, travel, debt consolidation, big purchases and much more. The cost of borrowing revolves around a few things, but it’s your credit score that will have the biggest impact on a lender’s decision about what interest rate you qualify for. 

Boosting your credit score before applying for a personal loan can make you eligible to qualify for better rates, which can potentially save you lots of money in what would be paid towards interest rates to cover the cost of borrowing. 

While this might not be an option when you have urgent needs for a personal loan, if you have the option of putting a loan request on hold while improving your credit score, it might be worth putting things on hold while trying to boost your score. It might also eliminate the need for a co-signer or co-applicant as well. 

If you make the effort, pushing your credit score into another segment or bracket can result in a significant savings overall. Even those with fair or poor credit stand to benefit from trying to improve their credit score before applying for a personal loan. 

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How Can I Boost My Credit Score?

The first thing you should do is get a copy of your credit report so that you can review your file for any mistakes that might be affecting your credit score. Disputing such issues can be one of the faster ways to improve your credit score should you find any issues.

Once you know what your actual credit score is, you can determine what it might take to reach another level where you could benefit from lower interest rates. 

Another option is paying down your debt such as credit card balances will help lower your debt to income (DTI) ratio, which is another factor that lenders look at. Ideally you would have this below 30% when applying, but if you are able to get your DTI below 10% it is much more in your favour. 

In Canada, a credit score can range from 300 to 900, with the higher the number being a better overall score. The following provides an approximation for how credit score ranges can be considered by lenders if thinking to apply for a personal loan.

• 760 to 900: Excellent
• 725 to 759: Very Good
• 660 to 724: Good
• 550 to 659: Fair
• 300-549: Poor or Bad Credit

Some banks or lenders might have their own unique scoring ranges that are different from above, but this provides an approximation that can help. 

If you are able to negotiate a lower rate on existing debt, this not only allows you to pay off the balance faster, it would also help you save. A good place to start can be if you have a high interest rate credit card. While the card company may ultimately say “no,” it’s always worth trying as it’s not impossible that they would agree to lower your rate. You could also share that you have been comparing your options and examples of other options available. In some cases they might not beat it, but match, which is still a win if you manage to lower the rate.

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Your credit score is a complex rating with interconnected factors and usually isn’t something that can be boosted overnight. It’s calculated from several considerations, including payment history, credit mix, length of your credit history, credit usage (i.e. utilization) and more. Maintaining a strong payment history is the most important aspect towards having a good credit score.

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How Much Can I Save?

As an example, not including other costs like origination fees or similar charges, let’s suppose your credit score was considered fair and just under 700. If you were looking for a personal loan of $10,000 on a 5 year term, your options might not only be limited, but you could expect to pay higher interest with a fair credit score. 

In this scenario let’s suppose a lender offered you a personal loan with an APR of 24%. But if you were to focus on improving your credit score and boost it to about 760, you might qualify for an interest rate of about 9%. 

With an interest rate of 24% your monthly payments would be about $288 per month. However, if you qualified for a 9% interest rate, your monthly payment would be about $208 a month. The difference you could save in this scenario works out to about $4800 saved in interest, which is close to $1,000 per year.

Let’s look at another example, but suppose you have a poor credit score and it was around 600, leaving you with few options other than high interest lenders. In this scenario, you’re looking to borrow $5,000 for two years and your best option is a lender offering 46%, not including any other fees. If you were able to improve your credit score to a point that lenders would consider offering you a rate of about 30%, then your monthly would drop from around $322 to $280 and you could save over $1,000 in interest fees. 

What Else to Know?

Keep in mind that your loan terms and rate, including APR, may differ based on a few things, including the amount, term length, credit utilization ratio, loan purpose, debt to income ratio and your credit score.

Additionally, should you get a personal loan and effectively pay it off and meet the requirements of your loan agreement, and paying it on time, once you have paid off your personal loan odds are that your credit score will have improved in comparison to previously.