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Gaining access to credit, like a loan or a new credit card, has become more difficult this year. And if you’ve got a credit score that lenders have deemed “bad,” it’s even harder.
Reacting to economic uncertainty, banks have tightened lending standards for households across all major categories in 2020, including mortgage, credit card, auto, and consumer loans, according to Federal Reserve data.
Lenders and creditors use your credit score and the details on your credit report to determine your creditworthiness, or the risk that they might take on by lending you money. If you have a bad credit score, lenders may view you as more risky, making it difficult to earn both loan approval and favorable terms.
For instance, a bad credit score may result in your mortgage lender approving you for a higher-interest loan. But even a small percentage difference could result in you paying thousands more in interest over the lifetime of the loan. And some lenders or credit card issuers may not approve you at all with bad credit, or may charge higher fees to offset their risk.
But bad credit doesn’t stick with you forever, and if you need to borrow money, there are still ways to get approved even with a low score. Here’s what you need to know:
Do You Have Bad Credit?
To determine what you’re eligible for and begin improving your credit score, you should know where you’re starting from. You can view your own credit report — on which the credit score is based — for free on AnnualCreditReport.com. Through April 2021, you are entitled to a free credit report weekly from each of the three main credit bureaus —Equifax, Experian, and TransUnion.
Each lender sets its own standards for assessing credit, and one may judge your score differently from another, but you should have a general idea of where you stand among credit users. You can check your credit score for free through your online banking portal or credit card issuer, or purchase access from a credit bureau.
Credit scores typically range from 300 to 850; FICO rates 300 to 579 as “very poor” and Vantage Score values anything from 300 to 600 as “poor” or “very poor.”
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These ranges can greatly influence the amount of interest you pay on a loan. For instance, someone with a FICO Score of 500-589 will pay 16.4% interest on a new five-year auto loan, on average, while someone with a 690-719 score will only pay an average 5.39%. You can use this calculator from FICO to see how interest varies between different credit scores and loan types.
Another thing to keep in mind is you don’t have to have a history of misusing credit to end up with a low credit score. If you’re just starting out with no credit history, your thin credit profile can lead to a poor credit score too, making it difficult to gain access to products that can help you build stronger credit. It takes years of timely payments and healthy credit usage to attain a great credit score.
If you do have bad credit, be cautious about which lenders you turn to: potential scammers and illegitimate lending companies can view a low credit score as a target.
Look out for any company that guarantees you’ll qualify for a loan before even applying or that uses language like “Bad credit? No problem” and “Get money fast,” the Federal Trade Commission warns. These types of lenders could charge large hidden fees or even use your information for identity fraud.
Bad credit can make you an easy target for predatory lenders. Be on the alert for any illegitimate companies or predatory lending offers, which could lead to more credit problems and mounting debt down the road.
Payday loans and title loan lenders are other common lending types that you should stay away from at all costs. These lenders often target consumers who have few credit and loan options. But they also charge astronomical interest rates which, for many borrowers, can lead to an ongoing cycle of unpaid, mounting debt.
By turning to predatory lenders, “You’re going to pay 300-400% APR, and that is devastating,” says Michael Sullivan, personal financial consultant at financial education nonprofit Take Charge America. By contrast, the current average APR (or annual percentage rate, the real yearly cost of your loan) is 14.52% for credit cards, and 9.5% for personal loans.
How to Get a Loan With Bad Credit
Reach Out to Your Current Bank
If you have an established banking relationship with a financial institution, try leveraging that to score a loan, even with bad credit.
“It is critical to have a relationship with a financial institution that will listen to your needs,” says Felicia Lyles, senior vice president of retail operations at Hope Credit Union, a community-development financial institution geared toward typically underserved populations.
This may not be as useful a tactic with large, national banks, but it might at least serve to establish a starting reference point for what rates or products you may qualify for. You can then compare with other financial institutions. Smaller institutions such as credit unions and community banks may be more likely than national chains to work with you on finding a product that fits your needs, especially if the alternative is predatory payday or title loan lenders. Credit unions do have membership requirements, often based on your location, employer, or other criteria, but you may find these criteria easier to meet than you think — or you may find ways around them altogether. Use this locator to find credit unions in your area.
Find a Co-signer
Seek out a trusted person in your life—whether a parent, friend, or family member—who may be willing to co-sign on your behalf to guarantee your loan.
This isn’t a decision someone should make lightly, though. Co-signing on someone else’s loan means that if the borrower defaults, the co-signer is responsible for paying. Not only must the co-signer be prepared to make the loan payments themselves, but they can also become responsible for any late fees or penalties, and their own credit score could be affected.
Co-signing can often be a dangerous financial practice, Jill Schlesinger, CFP, host of the “Jill on Money” podcast warns. “If someone cannot get a loan, usually there’s some reason behind it,” she previously told the Marketplace Morning Report podcast. “If a lender isn’t willing to extend money, why should you?”
If you decide to use this option, discuss all the details of your repayment with your co-signer beforehand, go over the details of your loan agreement, and look into your state’s co-signer rights. Your co-signer should be aware of all the risks involved, be prepared to repay the loan themselves, and make an informed decision about co-signing before applying for the loan.
Peer-to-peer lending is an alternative to traditional loans. Instead of borrowing from a bank or credit union, you can use an online service such as Lending Club to match with investors willing to loan money to borrowers.
Loan terms vary, and you can often receive a lending decision within a short time. Your terms are still determined by your credit history, and you must pass a credit check to take out the loan, but peer-to-peer lending may help you qualify more easily or earn a better interest rate than a traditional bank loan, even with bad credit.
Generally, peer-to-peer lenders report to the credit bureaus, but double check the terms of your lending agreement so you can work on improving your credit score while making timely payments each month.
Payday Alternative Loans
Rather than risk astronomical interest rates and ongoing debt cycles with payday lenders, look into payday alternatives loans (PAL) offered by credit unions.
These small loans range from $200 to $1,000, with terms between one to six months, according to standards from the National Credit Union Administration (NCUA). You will pay high interest, which may even range above 30% (higher than even many credit cards charge) but if you develop a solid debt payoff plan, PALs can be a viable option—and still much more affordable than payday loans.
If you don’t need immediate access to new money, a credit-builder loan can be a great way to build up a healthy payment history—a major factor in determining your credit score.
Instead of receiving cash up front which you pay back over time, you’ll have a set term and loan amount, during which you’ll make monthly installment payments. The lender reports these payments to the credit bureaus. Each month, this money will go into an account, which you can access at the end of your loan’s term.
“What you’re actually doing is paying yourself,” says Cristina Livadary, CFP, of Mana Financial Life Design, a financial planning firm in Marina Del Rey, California. “Then at the end of your term, you get that money back, and you can use it however you want.”
Accessing loans when you have bad credit is definitely an uphill battle, but it’s not impossible to find a lender, even as many tighten lending standards amid the ongoing recession.
If you need access to cash and you have bad credit, take time to examine your overall financial situation: work out a budget you can stick to, organize your debt balances, explore forbearance or hardship assistance, and develop a plan. And given today’s uncertainty, make sure any loan you’re considering is driven by actual need. You don’t want to accumulate more debt for expenses that can wait, like home improvements. Keep in mind your long-term financial health, too: build a small emergency fund if you have no financial safety net, and look into debt payoff strategies that might work best for you.