The importance of loans to your credit score
Installment loans comprise an important part of your credit profile. To have good credit you should have several high quality loans open and work to demonstrate good payment history over time. It is best if these loans report to all three credit bureaus and carry decent terms. Having different types of accounts open, active, and managed well is the only way to long-term credit success. But remember – these accounts have to show up on your credit report or they will contribute absolutely nothing towards your credit score!
Quality of credit matters
It is easy to get approved for a loan from finance companies (payday loans, title loans, etc.), but don’t be fooled. The interest and fees are exorbitant and the terms of the loan are often very abusive. It is very very easy to get sucked into a downward spiral of that is hard to climb out of. Plus, on top of all of that, the loan is viewed as low quality so it doesn’t necessarily help your credit even if you pay on time each month.
If you already have finance company accounts open then go ahead and pay them off according to the set schedule (unless you want to pay them off early to reduce interest and costs), adding the payment history is usually more important than wiping out the balance. But in the future stay away from all finance companies and only open loans at quality banks or credit unions, even if you have to get secured accounts at first.
Borrowing against your own money….what??
If you have bad credit or no credit you will not be able to get a normal loan at a bank or credit union. But rather than going to a finance company (see above) there is another option – secured accounts. Many banks and credit unions will extend credit as long as you put money down as collateral. This sounds crazy, if you have the money already why would you borrow against it? But the whole purpose of opening a secured account is to put a positive, high quality account onto your credit report that will help improve your credit over time. The goal is to get good credit so that in the future you will qualify for loans at the best (i.e. cheapest) terms!
Points to remember when getting a loan
- Always get loans through high quality institutions (banks and credit unions)
- Make sure the loan will be reported to all 3 credit bureaus
- If you have bad credit or little/no credit history then get a secured account
- Keep the size of the loan small and manageable but try to extend the loan over as many months as possible