Yes. Your installment loan can impact your credit score negatively or positively. A credit score is represented in three numbers, whose intensity shows if you are creditworthy or not. It represents your ability to settle debts at the agreed repayment time, determining your loan eligibility. Debt payment history makes up 35% of your credit score, and your progress can be reflected in numbers for the next lender to see.
With this knowledge, you now understand why making your installment payment on time is essential for your credit score strength. Timely repayments result in positive financial history, which comes in handy when determining your creditworthiness.
This article covers everything you need to know about installment loans, their effects on your credit score, and how they compare to revolving credit.
What Is an Installment Loan?
Installment loans refer to debts or credit whose repayment is done at fixed intervals where you pay a portion of the agreed principal amount plus interest. Most lenders prefer getting repaid in monthly installments on the loans they issue until you clear the total amount. You can apply for tribal loans direct lender guaranteed approval at Heart Paydays and repay later to grow your credit score.
An installment loan can be unsecured or secured. To obtain a secured loan, you have to place collateral against it. Unsecured loans have no collateral, but other steps can be taken against you if you default. Installment loans include car loans, personal loans, student loans, mortgages, among others.
Difference Between Installment Loans and Revolving Credit
Revolving credit includes credit cards, through which you can borrow funds whenever you need them and settle the debt within the specified period. An installment loan is a one-time debt that you borrow as a lump sum and pay back in small amounts until it is cleared.
For example, you can take an installment loan of $20,000 to be repaid within six years, while a credit card comes with a strict cash limit of an amount deemed affordable for you. After depleting the amount within your credit card limits, you’ll have to repay it to restore your credit limit. However, rolling over this debt to the next period accrues interests or other penalties when left unpaid for a long time.
Effects of Loan Payment History on Your Credit Score
One of the most important factors affecting your credit score is your loan repayment report. It takes up a third of the total credit score, that is, 35% and its strength or weakness depend on how active you are in settling your debts.
Missing an installment or paying it later than agreed can damage your credit score and lower it by a significant margin. The consequences are so dire that one missed or late installment can deduct 100 points from your credit score and uphold that status for seven years or more.
How Installment Loans Work
As stated earlier, installment loans refer to borrowed money that you receive in a single disbursement but repaid in smaller fixed amounts at specified intervals. The money repaid at every period is called an installment and is mainly settled monthly. For instance, if you have a $6,000 loan, you can agree to repay in 12 installments of $500 each. The accrued interest is then added to the installment, and the total repayable amount is then agreed upon.
Repayment schedules for installment loans are different, depending on the agreements and policies attached to the loan. For example, one lender can issue a $5,000 loan with a repayment period of two years, but another lender can extend the payment schedule of the same amount to five years. Regardless of the time, you’re given to clear this debt, the amount you pay at each interval is fixed, and so is the period. Timely repayments are good for growing your credit score.
The history of your debt repayment is an essential FICO® Score☉ element. Consistency earns you more points, strengthening your eligibility to secure more loans in the future.
Since installment loans are mainly repaid monthly, they create a sturdy platform for correcting your score whenever you make these regular payments. On the downside, extending this duration can affect you negatively and lower your credit score fast.
FICO relies on a scores algorithm to determine your success in settling revolving credit and installment loans. Credit mix refers to this combination, whereby a strong revolving credit on your report can cover up for missed installment repayment and lift your score. Likewise, including your installment repayment history raises your score even if you only use credit cards.
While a well-balanced credit mix is essential, it only covers 10% of the total score and may be overshadowed by other factors that are poorer. Some people take installment loans or max out their credit card debt to strengthen their credit mix once they start repaying these debts. However, this is not recommended, especially if your financial abilities can’t service these repayments, as you can damage your credit score more.
Improving Credit Score with Installment Loans
If you intend to apply for an installment loan, you should do it because you need the money to cater to financial needs but not to improve your credit score solely. You should also ensure that you can pay back on time and avoid added risks arising from defaulted debts or late installments.
If you already have debts borrowed earlier, you should maintain timeliness and payment of the agreed amount at each interval. This raises your credit score and eligibility for future loans.
Installment loans offer you a chance to raise your credit score, but you have to participate actively and uphold your end of the bargain. It requires you to maintain a steady repayment plan and make sure you do that on time to avoid lowering your score further.
One late installment can cause credit score damage lasting up to 7 years, making it hard for you to get approved for more loans easily. On the brighter side, you can dispute missed payment errors and better your credit score report.
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