Personal loans are unsecured loans provided by banks and financial institutions – meaning it is provided to the customer without requiring them to pledge any collateral; it is provided to individuals who meet certain eligibility criteria like credit score, debt to income ratio, age, employer and employment status, relationship with the institution, etc. 

Credit score is an important factor that lenders consider while assessing the risk of lending to a borrower. A higher credit score can lead to lower interest rates and more attractive loan terms, while a lower credit score can result in higher interest rates and less attractive terms. In this article, we will discuss how credit scores affect personal loan interest.

How does Credit Score Affect Personal Loan Interest Rates

Since personal loans are unsecured loans that are not backed by collateral, lenders rely heavily on credit scores and other financial data to assess the risk of lending to a borrower. The interest rate on a personal loan is usually determined by a combination of factors, including the borrower's credit score, income, employment history, and other financial factors.

There are four credit bureaus that calculate credit scores in India – Trans-Union Credit Information Bureau of India (CIBIL™), Equifax, Experian, and CRIF High Mark, of which CIBIL™ is the most popular one. The credit score that the credit bureau issues is a numerical score between 300 and 900.  For lenders, the closer the credit score is to 900, the better the profile is with respect to creditworthiness, which indicates an ability to repay credit on time. Typically, a score of 750 or above is considered good, while a score below 750 may result in higher interest rates and less favourable loan terms. 

For example, If you are looking to borrow Rs. 1 lakh through a personal loan for 1 year, and you have a good credit score of 750 or above, you may be able to secure a loan with an interest rate of around 12% per annum. That would mean you would pay back a total of Rs. 1,12,000 over the course of the loan tenure of 1 year. However, if you have a lower credit score, say 650, you may only be able to secure a loan with an interest rate of 18%, which would mean you would pay back a total of Rs. 1,18,000 over the course of the loan tenure of 1 year. As you can see, a lower credit score can lead to significantly higher borrowing costs.

Conclusion

Credit scores can have a significant impact on personal loan interest rates in India. Borrowers with higher credit scores are more likely to secure lower interest rates and more favourable loan terms, while those with lower credit scores may face higher borrowing costs. It's important to maintain a good credit score and to compare offers from multiple lenders to ensure you are getting the best possible terms for your personal loan.

FAQs About Credit Scores and Personal Loan Interest Rates

Q1: What is a good credit score to get a personal loan?

A: A credit score of 750 or above is considered good to get a personal loan. However, some lenders may require a higher score or may offer better terms to borrowers with a higher score.

Q2: Can I get a personal loan with a low credit score?

A: Yes, it is possible to get a personal loan with a low credit score, but it may be more challenging to find a lender willing to lend to you. If you have a low credit score, you will need to prove that your income can support your emi payments or apply with a guarantor. You can also opt for a lower loan amount or look for bad credit loans, which are based on the collateral that is provided.

Q3: Will my credit score get lowered if I apply for a personal loan?

A: Yes, applying for a personal loan results in a hard query in your credit report and that can temporarily lower your credit score. However, the impact is typically minor, and your credit score should recover within a few months. For this reason, it is better to avoid applying for a personal loan with multiple lenders at the same time.

Q4: Will checking my credit score affect my credit score?

A: No, checking your credit score will not affect your credit score. This is considered a "soft query" and does not impact your credit score negatively as opposed to a "hard query," which gets recorded in your credit report when you apply for loan or credit card.

Q5: How can I improve my credit score to get a better interest rate on a personal loan?

A: There are several steps you can take to improve your credit score, including paying your bills on time, keeping your credit utilization low, and monitoring your credit report for errors or inaccuracies. It may take some time to see a significant improvement in your score, but the effort can be worth it in the long run.

Q6: Can I negotiate the interest rate on a personal loan?

A: In some cases, it may be possible to negotiate the interest rate on a personal loan, especially if you have a good credit score and a strong financial profile. However, the lender's policies and terms may vary, so it is important to do your research and discuss with potential lenders to compare offers. 

Q7: Are there any other factors that lenders consider besides credit score when determining interest rates?

A: Yes, lenders may also consider other factors such as your income, credit history, employment history, debt-to-income ratio, and loan amount when determining interest rates. These factors can affect the level of risk associated with lending to you and can impact the terms of your loan.

Q8: How long will it take for personal loan approval?

A: The approval time for a personal loan can vary depending on the lender and your individual circumstances. Some lenders may offer pre-approved loans or instant approvals, while others may take several days to review your application and make a decision. It's important to check the lender's processing time and factor that into your timeline when applying for a loan.

Q9: What are the repercussions of missing an EMI payment on my personal loan?

A: Missing a payment on your personal loan can have several negative consequences. It can result in late fees and penalties, and it can also negatively impact your credit score. If you are unable to make a payment, it's important to contact your lender and discuss your options, such as requesting a payment extension or modifying your repayment plan.

Q10: How long does it take to improve a credit score?

A: The time it takes to improve a credit score depends on several factors, such as the severity of one’s past credit issues and how consistently one makes timely payments going forward. Generally, it can take several months or even years to see a significant improvement in your credit score. It also requires one to follow strict financial discipline.