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Five things borrowers need to know about ‘bad credit loans’

12 May 2016

Gocompare.com Money outlines the five key things would-be borrowers need to know when considering a bad credit loan

People with a less than shiny credit rating or no credit history behind them can find it tricky to be accepted for a loan. Lenders offer a range of loans tailored to these customers - commonly referred to as ‘bad credit loans’.

Those who’ve previously missed loan repayments, missed bill payments or made failed applications for credit could benefit from a bad credit loan. Those who’ve never borrowed might also struggle to qualify for market leading products as lenders have no evidence that they can be relied upon to make repayments.

Other factors, such as being self-employed, could also affect a person’s chances of accessing mainstream lending products.

Matt Sanders from Gocompare.com Money, commented, “Our guide to bad credit loans is one of the most viewed guides on our website, so it’s clearly a subject people want to know more about.

“When you borrow money or make an application – whether it’s a loan, credit card, mortgage or overdraft - it gets recorded on credit reports held by the three credit reference bureaus, Equifax, Experian and Callcredit. Your borrowing behaviour also leaves a footprint on your credit records. This means future lenders will be able to see what you owe and whether you’ve kept-up with your repayments. If your credit score isn’t perfect, or you haven’t built up a credit history, you may find that you’re not offered the best deals or find difficulty in getting credit.

“The good news is that there’re a number of positive steps would-be borrowers with a poor credit score can take to boost their rating, which will help with any future borrowing. 

Financial difficulties

“If you’re already struggling with debt consider other options before applying for a bad credit loan. Debt charity, Step Change offer advice on dealing with debt and help you to take control of your finances.

“If you foresee yourself having issues with making repayments, contact the lender as early as possible, they may be able to help you before debt mounts up. For example, your mortgage lender may be able to offer you a payment holiday. This is an agreement with the lender to stop or reduce you repayments for an allotted period of time. Not all lenders offer this option and they are usually subject to your individual circumstances.”

Gocompare.com outlines the five things would-be borrowers need to know when considering a bad credit loan:

1. What is a bad credit loan?

The term ‘bad credit loan’ is a catch-all phrase to cover loans specifically tailored to people who have a poor or non-existent credit history and who’ve had difficulty in getting a mainstream loan from a high street lender. The term encompasses a variety of different types of secured and unsecured loans from personal loans, mortgages to credit cards. Therefore, it’s important to take time to research which type loan is best suited to your circumstances. Typically, bad credit loans attract a higher than usual interest rate, reflecting the increased risk to the lender.

If managed responsibility, a bad credit loan could help you build or repair your credit score.

2. Secured v unsecured lending

Secured loans (now known as second charge mortgages): If you are a homeowner, then you could be eligible for a loan secured against your home. The amount you can borrow, the term and the interest rate will all depend on your personal circumstances and the amount of equity you have in your home used as collateral for the loan. However, if you default on your repayments, the lender can repossess your home.

Unsecured loans: More commonly known as personal loans, unsecured loans allow you to borrow a fixed amount of money over a fixed term, usually at a fixed rate of interest. So, you know from the start how much you have to repay each month, and the total cost of the loan. If you are unable to keep up with your repayments the lender has no claim to your property.

3. The importance of making soft searches for credit

Making an unsuccessful application for a loan can damage your credit score, so it’s important that you make a soft search (also known as a smart search) for a loan before applying.

A soft search is a credit search made on your credit file that won’t affect your credit score. Although it’s recorded on your credit file like every other search, lenders can’t see it, so it won’t affect their lending decision. 

A soft search will give you an indication of the products you are likely to be accepted for. However, they do not guarantee that any particular loan application will be accepted because lenders use a number of different criteria in addition to your credit rating in making lending decisions.

Other options for ‘bad credit’ would-be borrowers
There are a range of different bad credit loans on the market, however, if at all possible it's good to avoid taking on extra debt. Depending on your circumstances, you might be able to use a bad credit loan to manage difficulties with existing debts. For example, you may be able to consolidate your debt into one loan, extend your repayment period, or get a lower interest rate. But, you need to be aware of any early repayment penalties on existing loans, carefully compare interest rates and think very carefully before turning unsecured, personal debt into a secured loan – even if the repayment figures look attractive.

4. Other options available to borrowers with a bad credit history include:

Overdrafts: It may be possible to arrange or extend an overdraft on your current account to cover the amount you need to borrow. Depending on the rates charged, this could be a cheaper option than a bad credit loan.

Credit Unions: These are community, not-for-profit, co-operatives owned by their members that can offer a real alternative to banks for those in financial difficulty. You'll need to be a member to qualify for a loan.

Bad credit cards: These are dedicated cards for people with ‘bad credit’, these cards tend to have low credit limits and high interest rates. As with loans, you should make a soft search before applying for a ‘bad credit card’, otherwise an unsuccessful application will adversely affect your credit score.

Guarantor loans: This is an unsecured loan where a second person (often a family member or close friend) agrees to repay the debt if the borrower misses their repayments.

Government support: People receiving benefits may be eligible for an interest-free Budgeting Loan to be spent on everyday essentials for example, paying the rent. The sum you can borrow depends on your circumstances, but amounts vary between £100 and £812*. Only those deemed to be in urgent circumstances will receive a budgeting loan and it’s not a quick process. There are specific conditions that apply and repayments for a Budgeting Loan will be deducted from your benefits payments, so it’s important that anyone on benefits understands the small print before taking out such a loan.

If you are struggling with debt see stepchange.org for more information.

5. How to improve your credit rating

Check your credit report and, if there’s a mistake on your file, ask the company that filed the incorrect information to correct it.

Register on the electoral roll, this confirms your name against a fixed address. You can register online or by post. Contact your local electoral registration office to see if you’ve already registered.

Pay off existing borrowing on time, many lenders look at your history of repaying previous debts as an indication of your ability to pay off new ones. Always make sure you pay off at least the minimum amount due.

Close old or dormant accounts that you no longer use, lenders take in to consideration the amount you could borrow on existing accounts, not just what you currently owe.

Avoid applying for too many loan applications in a short space of time. And, stop applying if you’ve been declined for credit. Use a soft search to see which products you are likely to be accepted for.

Take care with joint accounts. If you open a joint account with your partner, this will financially connect your credit histories. If you separate from your partner, make sure that your credit history is separated. Ensure that the information held by credit bureaus accurately reflects your circumstances.

County court judgements (CCJs) for debt seriously affect your ability to get credit. If you have a CCJ which is now settled, ensure that this is updated on your credit file.

Gocompare.com has produced a guide on ‘Bad credit loans’.

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Notes to editors:

* Source: https://www.gov.uk/budgeting-help-benefits/what-youll-get