Competitive interest rates on personal loans can be found at banks, credit unions, and from online lenders. While interest rates can depend on the lender you apply for a loan through, they are also impacted by several other important factors. The interest rate you qualify for depends significantly on what your credit score is. Borrowers with poor credit will have a harder time obtaining a low-interest rate on their personal loans.
Your credit score is crucial to any application you make for new credit, whether a loan or a credit card. Credit scores are also commonly used in apartment applications and in determining insurance premiums. So, why is your credit score so important? Your credit score is meant to represent your creditworthiness and overall financial responsibility. The lower a borrower’s credit score is, the more potential risk there is to the lender. For this reason, interest rates are increased for those with poor credit to make up for the risk.
The most commonly used credit scoring model is the FICO score created by the Fair Isaac Corporation. It uses five categories of information from your credit report in the calculation of your score:
The calculation ends with a three-digit number between 300 and 850 points. Credit over 800 points is considered excellent. A score between 670 and 799 is good and very good. 580 to 669 points qualifies as fair credit, while anything below 579 is a poor credit score. To access the lowest interest rates available, you will need a very good or excellent credit score.
You can still access competitive rates on your personal loan without excellent credit, but the average interest rate is not the same amongst different score classifications. The average interest rate on personal loans for excellent to good credit is 10% – 16%. For those with a fair to poor credit score, the average rate ranges from 17% to 32%. Because of the major impact that credit scores have on interest rates, many financial experts recommend raising your credit score before taking on a large amount of debt. Improve your credit score by making all your monthly payments on time, reducing your debt, and disputing any errors you find on your credit report.