How a Personal Loan Could Help Build Credit

The methods for calculating credit scores can be difficult to understand.

The good news for consumers is that it isn't necessary to know the nitty-gritty details that go into a credit-scoring algorithm. Once you understand the basics of credit and why it matters, you'll have the knowledge you need to make smart decisions that may help build good credit.

Your credit starts with you: paying your bills as agreed, how many credit accounts you have, and what kind of accounts those are. Lenders, banks, and financial companies you do business with may share data about your account activity with the three major credit bureaus, Experian, Equifax, and TransUnion, which track and maintain your credit records.

Why you should care about credit

Building good credit is integral to achieving and maintaining a good credit score. Some debt-averse consumers have the attitude that credit scores only matter for those who choose to use credit. However, credit may be used as a de facto measuring tool for evaluating consumers and can be used by many entities outside of lending institutions and credit card issuers.¹ These entities include insurance companies, telephone and utility companies, employers and landlords.²

In short, having good credit could mean saving money on many things - not just on loan interest rates.

Building credit with a personal loan

"A personal loan can be a good tool for building credit. As long as you pay your personal loan on time each month, then it should build a positive credit reference that can help you build or rebuild credit," says Gerri Detweiler, director of Consumer Education at Credit.com.

The major credit-scoring factor

A personal loan won't help you build credit if you're not making timely payments. If you're not paying your bills on time, your credit score will reflect it. As Michelle Singletary emphasizes in an article in The Washington Post, "Paying your bills on time is the No. 1 way to fix your credit. Every debt. Every month. On time."

FICO shares in its credit-score breakdown that 35 percent of a FICO score is determined by payment history.³ Late payments or missing payments may hurt your credit score, but, on the flipside, consistently building a good track record of on-time payments is the surest way to improve your credit over time.

1. Board of Governors of the Federal Reserve System. “Credit Reports and Credit Scores.” Federalreserve.gov. https://www.federalreserve.gov/creditreports/pdf/creditreportsscores_2.pdf (accessed December 11, 2017).
   
2. Board of Governors of the Federal Reserve System. “Credit Reports and Credit Scores.” Federalreserve.gov.
   
3. FICO. “What’s in my FICO Scores.” FICO.com.
   https://www.myfico.com/credit-education/whats-in-your-credit-score/ (accessed December 11, 2017).