Do Personal Loans Build Credit? Only if You Use Them This Way

Yes,  personal loans can help you build credit, but if you abuse your new account, your credit will trend the other way — in a hurry.

To build credit with a personal loan, make sure to:

• Stay on top of your payments

• Avoid taking on more debt while repaying the loan

• Monitor your credit

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Key Takeaways

• Personal loans can build credit if you use them responsibly — consistent on-time payments, a diversified credit profile and manageable overall debt are what move the needle.

• On-time payments are the most powerful lever — accounting for 35% of your FICO score, so setting up autopay when you open the loan helps you build a strong payment record from day one.

• Using a personal loan to consolidate credit card debt can quickly lower your credit utilization rate, one of the most significant factors in how your score is calculated.

• Applying for a personal loan triggers a temporary score dip due to the hard inquiry on your credit report, but responsible use of the new account typically reverses that dip within a few months.

• A higher score means better loan terms — most lenders approve borrowers at a 580 FICO score, but waiting until you reach 670 generally earns you a lower annual percentage rate.

Summary generated by AI, verified by MoneyLion editors

How Personal Loans Show Up on Your Credit Report

There's a whole lot of upside to opening a personal loan to help you build credit. When you open a personal loan, the account is reported to the major credit reporting agencies — namely, Experian, Equifax and TransUnion.

Instead of a revolving line of credit that you can continually use, pay off, and use again — like a credit card or a home equity line of credit — these appear as installment loans.

In other words, they're loans that you pay down monthly until they are completely paid off. Some examples:

• Student loans

• Auto loans

• Mortgages

3 Ways a Personal Loan Can Help Your Credit

A personal loan can help your credit by giving you an opportunity to demonstrate healthy credit habits to the credit bureaus — and by extension, to lenders. Here's how:

1. On-Time Payments Show You're a Responsible Borrower

Financial institutions examine your credit profile before approving you for a loan, and they want to see responsible credit habits. Always making on-time payments can improve your credit considerably.

2. Your Credit Mix Gets Diversified

Opening a personal loan can also boost your credit mix, an important factor in your credit score. FICO awards you for having different account types, such as a credit card, an auto loan and a personal loan.

3. Reduces How Much Credit You're Using

A personal loan can also lower your credit utilization if you're requesting money to pay down high-interest credit card debt. Credit utilization is one of the most significant components that make up your credit score. Once you reduce the balances on your credit card, your credit score could catapult within a month or two.

How a Personal Loan Can Hurt Your Credit

A personal loan may initially hurt your credit — but don't panic. This short-term dip is due to the hard credit inquiry your credit report sustained when you applied for the loan. Use your new account responsibly, and your score will likely be back and better than ever within a few months.

Beyond the initial temporary ding, a personal loan can hurt your credit in more severe ways depending on how you use it.

• Miss a payment? Your credit score can carry that for up to seven years.

• High loan balance: Opening a personal loan can trick you into thinking you can spend more than your budget allows, which can lead to increased debt and high interest payments if you're not careful.

• Multiple applications: If your credit profile shows a high number of hard inquiries over an extended period, lenders may view it negatively.

• Slight credit decrease: Finally, a personal loan may cause your credit to dip slightly when you inevitably pay off the loan and close the account.

What's the Required Credit Score for a Personal Loan?

You'll need at least a fair credit score, defined by FICO as 580 or above, to be approved for most personal loans. Some lenders offer personal loans for those with subprime credit, but the terms are often less favorable.

If Your Credit Score Is Less Than 580

A score in the high-500s or low-600s may earn you an approval, but your interest rates are sure to be through the roof. Your credit score signals your creditworthiness to lenders. The more creditworthy you are, the more favorable the annual percentage rate (APR) you'll usually get.

Your best bet is to wait until you've got at least a 670 credit score, which is considered good according to FICO.

Remember that your credit score isn't the only thing lenders care about. They may look at details like your debt-to-income ratio (DTI), your employment history or the amount of new accounts you've opened recently.

Does Paying Off a Personal Loan Help Your Credit?

There are pros and cons to taking out a personal loan when it comes to building credit. It's a bit of a two-edged sword.

Paying off your personal loan shows other lenders that you faithfully pay back the money you owe. However, after you make your last payment, your loan will be closed. This can ding your credit score because it will lower the average length of your credit history — another important factor in calculating your credit score.

Still, it's only a downside in the short term. Your positive payment history will benefit your credit in the long run.

When a Personal Loan Makes Sense for Building Credit

Typically, taking out a personal loan and making payments on it doesn't make much sense solely to build credit. That's because installment loans incur monthly interest payments — meaning you're effectively paying for the privilege of building credit. There are less expensive ways to do this, such as opening a credit card and using it responsibly.

If you actually need a personal loan, it's a great way to boost your credit mix and increase your positive payment history. Just make sure you can make the monthly payments.

What Are the Best Ways To Use a Personal Loan To Build Credit?

Here are some things you can do right away to build credit with your personal loan.

• Consolidate credit card debt

• Set up autopay

• Avoid closing credit cards too quickly after paying them off

• Don't take on more debt while you're paying back the loan.

When a Personal Loan Might Not Be the Right Move

If you've got a poor credit score, the best loans with the most reasonable APR will be out of your reach.

Also, those already struggling to make monthly payments on their current bills shouldn't take out a new loan — unless it's to consolidate those bills.

How a Personal Loan Impacts Your Credit Score

FAQs

Do personal loans hurt your credit at first?

Personal loans do hurt your credit at first. That's because the lender will perform a hard credit inquiry on your credit report, which lowers your score by a few points temporarily. Don't worry — the drop doesn't last for long.

How fast can a personal loan improve my credit score?

It depends on the state of your credit profile. A personal loan can improve your credit score in 30 days if you use it to pay off your high-balance credit cards and consolidate your debt. If you've got a messy credit history, though, it could take a year or more to make a real change.

Can I get a personal loan with bad credit?

You can get select personal loans with bad credit thanks to credit builder loans, like the Self Credit Builder account. Loans like these don't drop a large chunk of cash into your bank account. Instead, Self deposits money into a CD, which you pay off in monthly installments.

Will my score drop after I pay off a loan?

Your score may drop after you pay off a loan because your average length of account history will decrease, but this effect is usually minor and short-lived.

What credit score do I need for a personal loan?

Most personal loans require at least fair credit, which is 580 or above on FICO’s scale. To have access to nearly any loan you want, wait until your credit score is at least 670.

Key Terms

• Installment loan: A loan you repay in fixed monthly payments over a set term until the balance reaches zero. Personal loans, auto loans, student loans and mortgages all fall under this category.

• Hard inquiry: A formal review of your credit report that occurs when you apply for new credit. Hard inquiries can temporarily lower your score by a few points and are visible to other lenders.

• Credit utilization rate: The percentage of your total available revolving credit that you're currently using. Keeping this rate low generally signals lower risk to lenders and can positively impact your score.

• Credit mix: The variety of account types — such as credit cards, installment loans and mortgages — in your credit profile. FICO accounts for it in score calculations, though it carries less weight than payment history or amounts owed.

• Payment history: A record of whether you've paid your credit accounts on time. It's the single most important factor in FICO score calculations, making up 35% of your score.

• Fair credit score: A FICO score between 580 and 669. It's the general minimum for personal loan approval, though a score of 670 or higher typically qualifies you for more favorable terms.

• Credit bureau: One of three companies — Equifax, Experian or TransUnion — that collect and maintain consumer credit data and generate the reports lenders use to evaluate your creditworthiness.

Sources:

• CFPB: Credit Reports and Scores

• CFPB: What Is a Credit Inquiry?

• myFICO: How Are FICO Scores Calculated?

Summary generated by AI, verified by MoneyLion editors

Jasmin Baron, CCC™, contributed to editing this article.

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