There are many reasons why people struggle with bad credit. For example, if you’ve defaulted on payments or had late repayments on loans, bills and store cards in the past, your credit score might have taken a bit of a battering. Alternatively, perhaps you haven’t had the chance to build up a strong credit history, due to your age or uncertainty in your living situation, employment and financial status. Whatever the reasons behind the challenges you’ve faced in establishing a solid credit score, you may well find it difficult to secure a loan for an essential purchase or service without reaching that magic number.
Positives and Negatives
If you have a poor credit score, your options for securing a loan may be limited, and you may be thinking about so-called ‘bad credit’ loans. Bad credit loans are credit options with a high acceptance rate, available to people who might find it difficult to get ordinary loans from high-street banks and providers. In addition to having high approval rates, those with poor credit might be looking for a quick injection of cash to tide them over, financially, until their wages reach their bank account. Some types of bad credit loans have a speedy turnaround time, which has garnered them the nickname of ‘payday loans’. However, these are intended as short-term solutions and carry exceptionally high-interest rates.
Aside from easy and quick accessibility, one of the main differences between credit from some mainstream providers and bad credit loans lies in interest rates. For example, when looking for a loan from a bank or building society, consumers with good credit scores will typically shop around to get the lowest APR (Annual Percentage Rate)—that is, the interest rate on repayments—this means that providers will typically compete to offer the lowest rates they can. On the other hand, with bad credit loans, interest rates are usually far higher, often leading to hefty repayments in the long term.
Personal or Secured Loans
There are several ways that you can borrow money if your credit history is less than perfect. Arguably the most widespread type of loan financing is a standard personal loan, though secured loans—where you offer high-value possessions such as your home or car as collateral—are also common. While it’s essential to keep up with repayments on any kind of loan, secured loans are particularly risky as you stand to lose your home or other valuable assets if you default on payments. On the other hand, personal loans typically come with the highest interest rates and your capital—e.g. assets such as your home—could be at risk if high APR and mounting debts bring recovery agents to your doors.
Another option available to those with poor credit is a guarantor loan. This type of credit funding benefits from lower interest rates than ordinary personal loans by bringing in a family member or friend to act as a guarantor. A guarantor typically has a strong credit score themselves and can reduce the risk for the organisation that provided the credit. However, if the person borrowing defaults on payment, the guarantor will pick up the repayment bill. While, in one sense, guarantor loans can be a safe option, finding a suitable guarantor can often be challenging and may bring about some difficult conversations about finances. If you manage to secure a guarantor in the shape of a friend or family member, it’s worth thinking about the effect that this agreement might have on your relationship, particularly if things go wrong and your guarantor needs to step in and cover the cost of any repayments.
How Have Bad Credit Loans Got a Negative Reputation?
What’s in a name?
There are a couple of reasons why bad credit loans have a negative reputation. The first, of course, is in the name: because these loans are designed for high approval rates, the suggestion is that they are specifically designed for those who have, in the past, not kept up with payments. Of course, as mentioned above, there are many reasons why you might have a low credit rating. Perhaps you have an incomplete address history or not have had the chance to build up your credit score due to a young age; perhaps you’ve recently arrived in the country and don’t have a recognised financial history here, which impacts your ability to access credit. In addition, past negative associations—such as having a joint account with a partner who incurred unpaid debts or didn’t manage credit wisely—might have impacted your credit score. It’s important to stress that a bad credit score is not always entirely the consumer’s fault, and you may be more capable of managing your money than you get credit for (pun intended).
Know your status before applying
Applying for several loans within a short period of time (typically less than six months) can also harm your credit score, as can being rejected for a loan or credit card. So, while the unfortunate term ‘bad credit loans’ can make you feel stigmatised if you struggle to obtain credit through mainstream providers, having a poor credit score can come about through several factors. Provided you ensure that you manage your money well and keep up with repayments, taking out a loan can help you to rebuild your credit score, helping you to gain easier access to varied financial products in the future. Although loans for people with poor credit can be riskier than other kinds of loans, knowing you can keep up with the repayments prevents a bad credit loan from becoming a bad idea.
Is the APR in your interests?
Another reason for the poor reputation of bad credit loans is the high-interest rates that providers often charge. As we saw in the first section of this guide, a high Annual Percentage Rate or APR is one of the key features of bad credit loans which distinguishes them from financial products on the mainstream market. If you have a bad credit score, the options available to you are limited, perhaps forcing you to take out personal loans with hefty interest rates or high-risk secured loans. If you then struggle to repay these loans, then not only will you find yourself hit with unmanageable debts, but your credit score will take an additional hit, too. If possible, use a reputable provider and check reviews on a range of different consumer platforms when researching your loan to avoid being taken in by unscrupulous loan providers with outrageous interest rates. It’s also worth bearing in mind that while a longer repayment term means that the monthly cost is lower, you’ll pay back far more overall, particularly if the interest rates are high.
How Can I Protect Myself When Taking Out a Bad Credit Loan?
What’s your score?
Before you take out any kind of loan, it’s essential to have a firm overview of your financial situation and be aware of the benefits and the risks. Whether or not you’ve been good with money in the past, it’s worth looking at your credit score and report before you consider your options. There are three major credit reference agencies in the UK—Experian, Equifax and TransUnion—whose data is typically used by financial service providers to assess your eligibility for credit through loans, store cards, hire purchase arrangements and other types of borrowing. You should be able to check your credit score with each of these providers on their website or smartphone apps; use all three regularly to gain a sense of whether you’re on track with your borrowing and alert you to anything on your record which has damaged your rating.
Check your eligibility
Checking your credit rating should help you understand whether you’re likely to be accepted for an ordinary loan and allow you to assess whether getting a bad credit loan really is your best (or only) option. Usually, credit referencing agency apps and websites have an in-built tool that allows you to check your eligibility for various financial products; this can also help you assess the likelihood of being accepted for different types of loans and mortgages, credit cards, and other borrowing options. Being rejected for credit can cause your credit score to drop even lower, and putting in multiple applications within a six or even twelve-month period is a definite no-no. Make sure you are clear on your chances of success before putting in an application for credit to avoid the risk of further negative impact on your credit score.
Is the data correct?
The other benefit of using the credit reference agency tools is that it allows you to spot errors in your credit history. Companies with whom you have had financial products report to the credit reference agencies, and the information they supply is used to build up your file. Occasionally, there can be errors in the data reported to credit reference agencies, which can negatively impact your credit score. For example, issues such as incorrect or out-of-date addresses on your bank accounts or even spelling mistakes can provide an incomplete financial picture and might negatively affect your credit score. Also, make sure that you’re on the electoral roll and eligible to vote in your local area, as not being listed can damage your credit score, too. Keeping track of your data and monitoring your credit score over time might seem like a daunting prospect, but this may open up the range of financial products available to you, helping you avoid high-interest loans favouring more manageable products with better rates.
Building Your Credit Rating for the Future
While some bad credit loans can negatively impact your financial situation, leading you into high-interest borrowing, which is difficult to repay, done right, taking out a loan or credit card can actually improve your credit rating and help you get your finances on track. After taking the first step of checking and understanding your credit rating, you can start taking steps to improve your score whilst still using the borrowing options available to you.
Financial service providers and credit reference agencies like to see that consumers are making responsible use of the credit available to them. If you have a poor credit score, taking out a loan with a reputable provider is actually a good way of showing that you’ve become more responsible with managing your money. However, to reap the credit-score building potential of borrowing, you need to create the right conditions, which means not taking out credit if you already have lots of open loans and making sure that you are comfortably able to repay the full sum, as well as the interest, according to the timescale laid out by the terms of the loan.
When considering what you can comfortably borrow and afford to repay—as with any kind of loan— don’t forget to factor in potential issues such as job security and health concerns that may affect your financial situation in the future. While it’s certainly worth basing your estimate of affordability on your current salary, consider whether you’d be able to repay the loan if you lost your job or had to go on sick leave; consider, too, future expenses, from essential home repairs or a new car to having children, and how this might affect your ability to cover the repayments on your loan. If you’re not comfortable that you can repay the full sum plus interest but are keen to build up your credit score through careful borrowing, there are credit cards available which allow you to do just that—these can enable you to borrow and pay back smaller amounts month on month and might be a safer option than a lump-sum loan.
Bad Credit Loans Aren’t All Bad… but, Borrower Beware!
Ultimately, not all bad credit loans are created equal. While it’s sensible to avoid excessively high-interest payday loans, taking out a bad credit loan can be done safely and responsibly with the right level of research and caution. Many factors often cause a poor credit score. You need to make sure that you’re not going to fall into habits that could continue to affect your credit rating or lead you into debts you cannot repay.
Whatever your financial history, it’s worth checking your score with all the major credit referencing agents and getting your borrowing and spending in order before you even consider taking out a loan. Make sure that you use a reputable provider. You are clear on whether you can afford the repayments, not only right now but throughout the full duration of the loan, and have a clear plan of how you will manage if your personal circumstances change. If you borrow responsibly and are assiduous in managing your repayments, taking out a loan is a safe option that could help build your credit score for the future.