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Imagine a scenario in which you are not at all happy with your current credit score. You’ve heard that one of the methods of improving your credit score is paying off an installment loan, but doesn’t applying for another loan just make you accumulate more debt? Now you’re caught between a rock and a hard place, needing a loan to improve your credit score, but not wanting another payment hanging over your head.
Understanding exactly how installment loans can impact your credit score is crucial in your financial planning process. Once you have a grasp on the effects of repayment on your score, you can decide whether applying for an installment loan will benefit you.
One of the more stressful aspects of financial management is oftentimes the FICO number. Your credit score is calculated with a range of factors, from account mix to credit history to the amount owed, and understanding how installment loans play into these categories will help you determine whether they’re the right choice for you.
Did you know that 10% of your FICO score is based on your mix of accounts? This can include credit cards, which are “revolving” accounts, and installment loans. Having a variety of accounts actually increases your credit score, so diversifying your account portfolio with an installment account can significantly boost your numbers.
Installment loans utilize a fixed repayment schedule that allows you to pay off debt in routine intervals. On-time payments for these loans build a positive credit history, which is the most important factor (35%) in calculating your credit score.
If you use an installment loan to pay down revolving credit, like credit cards, your overall credit utilization will be reduced, meaning your credit score improves. Credit utilization is how much of your available credit you are using at a given time, and it is 30% of your FICO score.
When you pay off an installment loan in full, that success shows up on your credit report. Think of it like adding a notable achievement to a job resume. It helps you build a history of responsible, reliable credit, which boosts your score and shows potential lenders that they can count on you.
If you have debt spread across multiple areas, you may want to consider consolidating it into fewer payments. This is a good option if you can qualify for a lower interest rate than you are already paying. With a fixed monthly payment and clear loan terms, you can easily save money month over month compared to your credit card options.
Overall, consolidating debt through an installment loan can be a huge help organizationally and help you pay off debt more efficiently. It can also reduce your credit utilization ratio, which—you guessed it—ups your credit score.
Now that you know how installment loans can potentially impact your credit score, how can you best use them to your advantage? First of all, be sure to make timely payments. This builds a responsible credit history and makes sure your credit score reaps the benefits of your loans. Secondly, avoid using credit cards once you’ve consolidated your debt. Keep your credit utilization ratio low to keep your credit score high.
Ready to explore installment loan options? We’re here to help. Visit us at Credit Central or apply online today.
