When you have bad credit, obtaining new credit can be challenging. People with bad credit often find it difficult to get approved for a loan, as there is a limited number of lenders that offer bad credit loans. When people with bad credit are approved for a loan, there are typically higher interest rates, more fees and greater restrictions than personal loans for people with good credit.
This guide covers the basics of how bad credit loans work, how to apply and receive a loan, and recommendations for the best bad credit loan companies.
What Is a Bad Credit Personal Loan?
A bad credit personal loan is a type of personal loan that is marketed to people with bad credit. People normally get bad credit personal loans for debt consolidation, to pay off unexpected expenses, make a large purchase, or to fix a home or car. Bad credit usually is a FICO score below 640. FICO is the main scoring system for consumer credit, with credit score ranges defined as:
- Exceptional (800 to 850)
- Very Good (740 to 799)
- Good (670 to 739)
- Fair (580 to 669)
- Very Poor (300 to 579)
While credit score ranges can go as low as 300, you typically need at least a FICO score of 600 to qualify for a bad credit loan. Each lender will look at your score to determine what level of risk it is willing to bear.
If you are able to qualify for a loan despite having bad credit, you may have to make a larger down payment and pay higher interest rates for the loan.
Bad credit loans typically have higher interest rates and shorter loan terms than loans offered to people with good credit. Standard bad credit loan terms are two to five years with an average annual percentage rate of 25 percent, according to Bankrate. In comparison, personal loans for those with good credit typically have term lengths from one to seven years and an average APR of 4.29 percent.
If you take out a bad credit loan in the amount of $10,000 with a typical term of three years and a 25 percent APR, your monthly payment would be $397.60. The total interest paid on the loan would be $4,313.14.
For comparison, if you have good credit and can qualify for 4.29 percent APR on a personal loan for $10,000 for three years, your monthly payment would be $296.53. You would pay $675.14 in interest. By having good credit, and being eligible for an interest rate of 4.29 percent versus 25 percent, you will save a total of $3,638 in interest.
Bad Credit Personal Loans Versus Payday Loans
Payday loans are another type of loan marketed for people with bad credit. The loan amounts are usually small and the terms are short, but interest rates and additional fees can be exceptionally high. If you are unable to repay the loan in full by the end of the term, which is typically your next payday, the loan is usually extended and additional financing charges are added.
Borrowers usually charge a substantial amount in interest, often around 400 percent. With some payday loans, especially those that are extended, the amount you pay in interest is higher than the original loan amount. Payday loans have a reputation of being predatory, targeting those who have poor credit and very few options, need quick access to cash and need the loan to fill pay gaps.
While they’re easy and quick to obtain, payday loans are very risky and are not recommended.
Alternative Payday Loans
While they typically have higher interest rates than a personal loan, alternative payday loans have slightly better terms than traditional payday lenders. Interest rates are typically between 36 to 400 percent and loan terms start at four months. Alternative payday lenders include Fig Loans, Rise and LendUp.
Some alternative payday loan companies market themselves as more socially responsible than traditional payday lenders because they offer better terms. They also want to help consumers rebuild their shaky credit and make payments on time. For instance, LendUp provides financial education and rewards existing borrowers who repay their loans to be eligible for loans at larger amounts and lower rates. Fig Loans only charges fees to cover the costs of the loan.
With alternative payday loans, you may have the option to refinance your loan if you’re making payments consistently on time. Refinancing your loan could lower your interest rate and help you save on the overall amount of the interest paid on the loan. You can also extend the length of the loan, which would lower your monthly payments but result in paying more in overall interest.
While alternative payday loans generally have better terms than a payday loan and are fast to obtain, they still charge very high interest rates and are still very similar to payday loans.
Before You Apply for a Bad Credit Personal Loan
You should obtain a copy of your credit report before applying for any type of new credit. You’ll want to make sure there are no errors on your report before you start applying for a personal loan. If there are errors, fixing them can improve your credit score, allowing you to qualify for better interest rates. You can get a copy of your credit report from each of the three major credit bureaus once a year for free at AnnualCreditReport.com.
“When you apply for a personal loan, the creditor will check your credit report to help them determine whether you will repay the debt,” says Rod Griffin, director of public education for Experian, one of the three major credit bureaus. “Your credit history and credit scores help lenders predict the likelihood a person will repay a debt as agreed upon.”
1. Check your credit report for errors. Griffin recommends checking your credit report and score at least three months before applying for credit. You should correct errors as soon as possible by disputing them with the credit bureau before applying for a loan. Dispute resolution can take up to 30 days.
Three of the most common errors you should look for are:
- Identity errors, such as an incorrect address or spelling of your name. There may be more serious errors such as a mixed file: accounts that belong to a person who has the same name as you.
- Incorrect account details, such as the wrong dates, accounts were closed or opened, closed accounts still listed as open, incorrect credit limits and payment history
- Fraudulent accounts: If an identity thief has stolen your identity to open accounts in your name, you’ll want to get this removed from your report as soon as possible.
2. Think twice before closing your accounts. Closing accounts could negatively impact your credit score. When you close accounts, if you have outstanding revolving debt, it can reduce your total available credit. In turn, it may increase your credit utilization ratio, which can lower your credit score.
Note that accounts closed in good standing stay on your credit report for 10 more years, so it doesn’t affect your credit age in the near term. After 10 years, the closed account will only lower your average age if you close old accounts and keep newer ones around. If you close newer accounts and keep the old ones open, this may actually help improve your credit score.
3. Budget your loan repayment. Come up with a repayment plan to make your payments on time. Your budget should include basic living expenses, savings goals and debt payments. If your lender offers flexible due dates, schedule your payment to coincide with when you are paid by your employer.
4. Stay on top of your payments. Commit to a loan length that you know will work for your budget. For instance, if your loan length is three years, do the math and see if you can manage to pay it off in two. If there are no prepayment fees, you’ll save on the interest. However, if you can’t, your credit won’t be affected negatively and you’ll still be adhering to the terms of the loan.
5. Shop around for the best quote. Getting a personal loan is a big decision, so take your time to shop around for the best quote possible. Most lenders offer preapprovals, which are rate quotes provided after doing a soft pull on your credit. Preapprovals do not affect your credit score.
When your application is going through final approval, the lender will do a hard inquiry on your credit. As hard inquiries may negatively impact your credit score, you’ll want to apply for a personal loan only as needed.
6. Beware of scams. It can be difficult to spot a scam among legitimate online lenders. Scammers may not offer you a loan, but instead take the highly private personal and credit information you provided and sell it for misuse. A company may be a scam if it requires upfront fees, ignores your payment history, initiates contact or contacts you nonstop, asks you to pay with a prepaid card or isn’t registered in your state.
Applying for a Bad Credit Personal Loan
Most personal loans have a similar application process, which often includes:
1. Preapproval. Most online lenders offer a quote on interest rates with a preapproval. This results in a soft inquiry, or a soft pull of your credit, which doesn’t affect your credit score. Lenders will do a hard inquiry, or hard pull, later in the application process.
Common requirements to get approved for a personal loan with bad credit include:
- Minimum FICO score of at least 600
- Clean credit history; no judgments, liens and bankruptcies on your credit report; and a history of making on-time payments
- Stable employment
- Proof of identification with a passport, driver’s license or voter’s ID. You’ll also need to provide proof of residence such as a utility bill.
2. Choose your loan terms. It’s important to know and understand the terms of your personal loan before you obtain one. You should factor in:
- The loan amount
- How frequent your payments are
- How long you have to pay the loan (the longer the repayment period, the more you’ll have to pay in interest over time, but the lower your monthly payments will be)
- The APR, and whether your loan comes with a fixed or variable interest rate
- The origination fee
- If there’s a prepayment fee
- Late payment fees
- Any other restrictions and requirements that you should be aware of
3. Finalize your application with a hard inquiry. A hard inquiry, or hard pull, shows up on your credit report and can negatively impact your score if you have too many recent inquiries. Hard inquiries may affect your credit score because lenders view someone who is looking for new credit as a higher risk.
An additional hard pull may cause your credit score to dip a few points. Sometimes, a hard inquiry may not affect your score at all, and hard inquiries have a greater impact when you have a short credit history or few accounts.
4. Repay the loan. After your loan funds are disbursed, you will begin making payments. Make sure you’re making on-time payments to avoid late fees and a negative impact on your credit. Delaying payments will result in paying more interest and will increase the cost of the loan.
“If you miss a payment or due date, credit profiles will suffer,” says Joseph Toms, president and chief investment officer of Freedom Financial Network, a financial asset management business. “That can reduce the consumer’s ability to get credit in the future. Before applying, be sure you can make the payment every month.”
Choosing a Bad Credit Lender
When choosing an online lender for a bad credit loan, there are important features to research. Consumers should evaluate lenders based on the following criteria:
- Type of lending company
- Credit history and general qualifications
- Co-signer option
- Additional eligibility qualifications
- Employment requirements
- Interest rates and types
- Loan terms
- Fees and penalties
- Repayment options
Type of Lending Company
Bad credit personal loans are backed by private banks and peer-to-peer marketplace lenders. While private banks offer the security of established financial institutions, they may have more stringent lending requirements.
Peer-to-peer marketplace lenders connect approved backers to lend money to potential borrowers online. Lenders make money off the interest, and usually the amount of a loan is spread among many investors.
Credit History and General Qualifications
While lenders that offer bad credit loans typically require a minimum FICO score between 580 to 620, the average credit score of borrowers is higher, ranging from 600 to 700. The maximum debt-to-income ratio, which is the total of your monthly debt payments divided by your gross monthly income, allowed by bad credit lenders is higher than what is typically expected for applicants with good credit, ranging from 40 to 45 percent.
The minimum credit history varies among lenders for bad credit. For example, Upstart specializes in loans to those with short or no credit history, while Peerform requires a credit profile without any current delinquencies, recent bankruptcies, tax liens, no medical debt within the last 12 months and at least one open bank account and revolving account.
Some lenders only offer loans to borrowers who reside in certain states. For example, LendingPoint is only offered to residents in 17 states. Upstart requires that borrowers who reside in Ohio have a minimum loan amount of $6,000 and borrowers who live in Massachusetts have a minimum loan amount of $7,000.
You can use a co-signer’s strong credit and income to qualify for a lower rate and better terms on your personal loan. If you default, the co-signer is responsible for making payments on your loan, so they offer additional assurance for lenders.
While having a co-signer can boost your chances of a loan with more favorable terms and rates, there are drawbacks. These include potentially damaging the personal relationship with the co-signer as well as their credit if you default on the loan. Co-signers and borrowers should understand the terms of the loan and repercussions before taking out a loan.
Additional Eligibility Requirements
If you have bad credit, lenders may have additional educational, job history and area of study requirements. To compensate for bad credit, lenders typically recommend having a high, stable income. Upstart requires borrowers to either be on track to graduate within six months of borrowing the loan, or be enrolled in a partner bootcamp.
Some lenders will consider aspects of your background beyond credit, explains Toms. “Traditional credit data does not necessarily account for your complete financial profile and ability to pay debts,” he says. Independent lenders may use different criteria to help evaluate how likely you are to repay a loan.
“Some will have a direct conversation with applicants, which allows them to provide information and context about their credit profile,” says Toms. Other factors include evidence of financial responsibility, such as one’s savings. Seeking a lender that does this can be particularly important for those with less-than-stellar credit.
Most bad credit lenders offer fixed and not variable interest rates. With a fixed-rate loan, your interest rate remains the same during the term of the loan. A variable-rate loan, on the other hand, has an interest rate that can fluctuate over time, and it is tied to an index rate. The higher your credit score, the lower your interest rate will most likely be.
During the pre-qualification process, lenders pull a soft inquiry on your credit to determine your potential APR and other terms. Soft inquiries do not impact your credit score.
When you’re preapproved for a bad credit personal loan, you’ll receive the terms of the loan, which includes the amount, APR, loan period and loan restrictions. Before accepting the loan terms, these should be reviewed carefully. Make sure the terms are something you’re comfortable with and that you can make on-time payments.
Fees and Penalties
Fees include origination, prepayment, late, returned check, insufficient funds and processing fees.
Lenders charge origination fees for processing the loan. Some personal loan lenders have no origination fees, and others have fees ranging from 1 to 6 percent of the total loan. Some lenders offer the option of adding the origination fee to the interest rate. The origination fee may vary by state with some lenders.
Some lenders charge a prepayment penalty fee, which offsets the interest lost when you pay off a loan early. This fee is usually the interest charge for a certain number of months, or a percentage of the remaining balance.
If you are late on a payment, you usually have to pay a late fee. Lenders may allow a grace period of 10 or 15 days before they charge a late fee. Typical late fees range from $15 to $30, with some lenders charging 5 percent of your monthly loan amount or $15, whichever is greater. Some personal loan lenders do not have late fees. The fees for a returned payment and/or to process a check can be up to $15.
For the borrower’s convenience, lenders usually offer multiple payment options, including autopay, which might get you a discount, online and check. Some lenders offer some flexibility in your payment date, so you can change it to a date that works best for you.
Best Bad Credit Loan Companies of 2018
U.S. News researched lenders for data on eligibility, loan terms, fees, repayment methods and additional features to identify the best companies offering bad credit personal loans. The analysis was limited to companies with online applications, no minimum FICO credit score or a minimum FICO score of 620 or less, and a maximum debt-to-income ratio of at least 40 percent, with preference for companies offering features including cosigners and online preapprovals.
Each consumer has different needs, and many lenders specialize in specific areas designed to meet them. U.S. News identified top lenders in key areas of eligibility, interest rates and features that are most useful to consumers with bad credit.
- Best marketplace for low credit score with education-based qualifications: Upstart
- Best bank for low credit score with merit-based qualifications: LendingPoint
- Best for low credit score with co-signer option: LendingClub
- Best for no minimum credit score: NetCredit
- Best bank for low credit score: Avant