How can a Car Loan Regain My Credit?

Applying for a car loan will help you rebuild your credit. Kind of ironic right? Why would you want to take on more debt when you’re still trying to regain credit worthiness? Well as it turns out, if you’re income allows, a car loan can provide a unique way of helping you rebuild your credit.

Below are some tips on how a car loan can help you regain your credit.

Revolving vs. Installment

Knowing the potential value of a car loan needs understanding on how revolving and installment credit affect your credit report.

A revolving credit usually refers to your credit cards. It is called a revolving credit because of the rise and fall of your payments. For example, your credit card bill was $400 last month but only $200 for this month. Your monthly payments vary and you are not even required to pay the full balance. Although it is wiser to pay in full (if you can) in order to avoid extra interest charges.

Meanwhile, installments are set at a fixed amount. Since you are borrowing a fixed amount of money, there is also a fixed amount that you need to pay monthly which depends upon the interest rate and the loan term duration. You cannot borrow more money or pay less of the set amount. That is why installments are sometimes called “close-end” accounts.

To add, installment loans are usually for bigger amounts of money compared to revolving credit. Since you are borrowing a huge amount, managing it well and successfully settling your debt will improve your credit faster than in revolving credit. If you are eyeing for a house loan, starting with a car loan will help you build credibility and will hopefully lead you to a home ownership.

Credit report agencies also reward borrowers that have a good credit mix of revolving and installment credit. Furthermore, credit agencies give more importance to active loans than closed loans. In short, a successfully paid loan will help improve your creditworthiness.

Making sure your car loan rebuilds credit

  1.   Assessing your current financial situation

First of all, you need to make sure that you have the budget. It would be very foolish for you to take on more debt that you can’t even afford to pay. If you don’t have the extra money, you should focus more on paying your existing debts. That way, when you have settled your debts, you can start building your credit by getting an auto loan.

When you are ready for a car loan and/or take on new revolving credit, don’t open multiple accounts right away. Three or more active credit accounts are sufficient enough to give credit agencies the impression of having a diverse credit mix. Going for multiple accounts in a relatively short time period will seem like you are too reckless and anxious to gain more access to credit.

  1.   Choosing the appropriate vehicle

If you think that you are not yet financially ready for a new car loan, don’t force the issue. Remember that steady payments on an old car will still be reported to bureaus just as in new cars. Just make sure that your dealer reports your payments so that you can benefit from this loan.

The reason why dealers are more eager to extend credit to potential borrowers with weak credits is because they benefit from a car moving off of their lot than traditional banks. That is why they are more willing to take risks on those with weak credits. To add, dealers often work with lenders that will most likely approve your loan and might even provide an interest rate that is reasonable.

Always bear in mind that it is highly unlikely that you get the best interest rates since you are still rebuilding your credit. Making a down payment though is another alternative in which you can get lower interest rates because you are also borrowing a smaller amount of money from a lender. It will also increase your chances of securing a loan approval.

  1.  Making sure you are paying on-time

Once you have committed to an auto loan, it is crucial that you are mindful with the deadlines of your monthly payments. Being a consistent, on-time payer is a best way of rebuilding creditworthiness. Setting up an automatic withdrawal through a checking account will ensure you of on-time payments. This will help you manage your payments efficiently

As early as six months, on-time auto loan payments will begin to reflect in your credit score. Paying off your car loan earlier would seem like a smart way of showing commitment and responsibility but take note that each on-time monthly payment is a good addition to your credit file. For instance, paying off a 36-month loan in just 8 months doesn’t provide much history to credit bureaus. Although this way, you can indeed save money on interest rates.

Lastly, make sure that there are no pre-payment penalties in your loan term agreement. Part of the evaluation of your credit is how much of the accessible credit you are currently using.  For example, paying off the remaining $5,000 debt on your car loan will reduce your total debt by the same amount. However, by closing the loan you’re also letting go of your total available credit by the original amount of the loan. This can push your credit usage rate higher.