A lender uses credit scores to determine the terms of loans and whether or not to advance the funds. Further, the rate enables a lender to hedge against losses accrued to defaults and bad debts by appropriately pricing the services.

Credit scores are determined by analyzing the credit reports of a borrower. Currently, the Fair Isaac Corporation index (FICO) is widely used by lending institutions. To determine the creditworthiness of a person, the score introspects five aspects;

• Repayment history.
• Types of credit owned.
• The current level of indebtedness.
• New credit applications.
• Length of credit history.

The FICO score ranges between 300 and 850, where 300 is very low and 850 is exemplary. The score is calculated on the following basis;

• 35%- On time payments.
• 30%- Capacity used.
• 15%- Duration of credit history.
• 10%- Types of credit held.
• 10%- New credit applications.

It is important to point out that the mathematical formula has never been disclosed by the Fair Isaacs Corporation for patency right purposes. For a borrower to get a score, the person has to give out some information and expect a score after a given amount of time.

The Following are the Scores and What they Mean to a Borrower;

1. 1. Below 300: No Credit

This individual has never taken a loan and there is no sufficient data to compile a credit score. Additionally, the borrower could have caused a lender to have a bad debt on more than one occasion.

1. 2. 300-579: Very Poor Credit Score

An individual scoring below the figure is considered unfit for credit and in most cases, there would be an outright rejection. The score means that the prospective borrower has defaulted on loan repayment and has accumulated debts.

1. 3. 580 to 669: Average Credit Score

The score means that although the individual struggles to repay loans, the person can be trusted as the chances of bad debts are almost null. However, the credit is risky and the rates will be very high. The individual can get short-term personal loans.

1. 4. 670 to 739: Good Credit Score

This score is good. It means that an individual is capable of living up to the agreement. However, the borrower cannot qualify for certain loans that require huge amounts of repayments such as mortgage rates, corporate credit. The rates are standard and fair.

1. 5. 740 to 799: Very Good Credit Score

The score means that an individual has low debt to income ratio, has been paying on time, has a history low credit balances among other factors. Additionally, the reports show that the individual has a history of successfully paying of loans such as auto and student loans on time. The individual is not a risky borrower.

1. 6. Exceptional Credit Score: 800 to 850

The individual is creditworthy in every sense possible. The borrower can get the most competitive rates and can access most all times of loans depending on the amount applied for.

How to Improve the Scores or Get a Loan

Despite the scores, a borrower can prove to the lender that he/she is capable of managing a loan by presenting proof of improved and stable income, improved mental health after treatments and so on, provided that the proof is relevant. Additionally, one can practice the following;

• Cutting on unnecessary expenses.
• Using loans for the purpose intended.
• Paying the loans on time.
• Renegotiating the terms of service if an unexpected event occurs such as loss of job, a death of a spouse, unforeseen expenses such as medical bills and so on.

If you find yourself strapped for cash, a personal loan may help you close your budget gap, no matter what your income bracket.

You may consider taking out a personal loan for a variety of reasons, including completing a home improvement project, making a major purchase, covering educational expenses, or paying an old bill that is accruing interest. In some cases, it can be quicker to take out a personal loan than a home equity loan, and you may not have enough equity in your home for a home equity loan in the first place.

Before you sign on the dotted line, however, there are a few things you should know.

What is a personal loan?

Personal loans are known as “unsecured” debt because they are not backed by collateral, such as your home or car, as is the case with a mortgage or auto loan, respectively. Lenders will use your credit score to help determine whether to give you a personal loan and at what interest rate. Depending on your credit history, the interest rates on personal loans can be higher than secured loans, so you may want to consider personal loans only for expenses you intend to pay off quickly.

Personal loans aren’t like credit cards, which are revolving loans. Credit card loans and other revolving loans have no fixed payment term and often have a fluctuating interest rate. Rather, personal loans are a type of installment loan. Installment loans have a fixed repayment term, usually two to five years, and often carry a fixed interest rate. You’ll receive a lump sum up front and then pay the money back (plus interest) in regular monthly installments.

If you are looking for a personal loan, look for a fixed-rate agreement. While most personal loans have a fixed term and interest rate, there may be exceptions, so be sure to read the fine print.

Your credit score will determine the affordability of a personal loan

In general, your Equifax credit score ranges from 280 to 850, It’s an educational score—the score you see may differ from score a lender sees. A “very good” credit score ranges from 725 to 759, whereas 760 to 850 is considered “excellent.” The higher your credit score, the more affordable your loan may be. For example, one personal loan advertised on Bankrate.com carried an interest rate of 6.9 percent, which is several percentage points below the average credit card interest rate  (add credit report link here)

But for borrowers with credit issues, the interest rate on a personal loan may be the same or more than the interest rate on a credit card. The average interest rate for a personal loan was 10.74 percent in October 2016, which is about the same as the average interest rate for a credit card. Some personal loans may even carry interest rates as high as 35 percent.

A high interest rate could result in large monthly payments, which can become unaffordable and cause you to make late payments or to miss payments completely. This may affect your credit score, and missed payments could remain on your credit file for up to seven years.

While you will want to shop around for the best interest rates available, be sure to compare the total cost of the loan, not just the interest rate, and speak to different lenders. Also bear in mind that a low interest rate could be an indicator of additional fees and conditions.

The potential risks involved with a personal loan.

Unlike a credit card, which you can pay off over an undetermined amount of time, a personal loan must be paid off in a fixed amount of time. This can mean you will be paying off the debt faster, but it can also pose problems if the loan isn’t paid off within the loan term. Because the loan isn’t secured by any property, if you don’t pay back the loan, the lender could take you to court and sue you. In addition, paying off your personal loan too early may result in extra fees. Some personal loan agreements include prepayment penalties if you pay off your loan before a certain date.

Finally, be wary of scammers who use false advertising to lure you into a fake loan agreement. One example is a so-called “advanced fee” loan, where you pay an advanced fee for a loan you never receive. Once you wire the money, it’s gone—along with some of your sensitive personal information.

Many credit unions have alternative programs that provide loans at low prices to people with poor credit scores. Additionally, credit unions are not-for-profit entities, so they may be able to charge lower interest rates than other banks.

If you qualify, a personal loan can be a great way to finance your expenses at a low cost, as long as you don’t get a larger loan than you need. However, before you consider taking out a personal loan, you may want to practice good credit habits to make sure your credit score is the best it can be. Improving your credit score may increase your chances of getting a loan with a lower interest rate.

Lenders use your credit score as the leading factor in determining whether you are a good candidate for a loan. Strong credit scores are critical for everything from availing loans and credit cards at good interest rates to getting better loan amounts all with no trouble. To adequately understand why credit scores are so important, we need to begin at the very beginning.

What Do We Mean By Credit Score?

A credit score is a three-digit number that is derived from the information that appears on your credit report to assess your creditworthiness. It indicates how likely you are to repay your loan in a timely manner. The information on your credit report is used to calculate your credit score. Consumer reporting agencies (CRAs) like the Experian, TransUnion, and Equifax compile your credit history and sell it to lenders, employers and other entities. Many lenders use FICO Scores, a credit score algorithm developed by Fair Isaac Corporation. You can get the FICO scores based on your TransUnion, Experian or Equifax credit reports all of which may vary slightly. It is, therefore, advisable to review each of the reports from the big three, so you can keep up with the finer details influencing your credit score.

The primary factors that determine your credit score include payment history, the total owed, type of debt, applications for credit and length of time using credit. According to creditkarma.com, a score of 720 or above is considered good credit while that above 750 is excellent credit. Scores below 660 can result in higher rates, fees or more sizeable down payment mandates.

Why Does it Matter?

Your credit score plays a significant role in your financial journey. In today’s marketplace, it is important for entrepreneurs to manage their credit scores as it can to a large extent affect one’s ability to secure a personal loan, payday loan, business loan or other types of financing.

It determines whether or not you’re approved for credit
The majority of the lenders, especially in financial institutions review their applicants’ credit scores as part of their decision on whether or not to grant a loan. Most business startups require a good amount of cash which is not always available. In such cases, you may need to obtain a small business loan, and the key to that is having a good credit to qualify for the loan. When you and your business have a good credit profile, you have a better chance of securing financing whenever you need it.

Better credit scores usually lead to better rates

Any lender will like to gauge how much they risk when they lend money to you. Higher credit scores qualify you for better interest rates and loan terms on any loans you seek helping you to save thousands of dollars in interest on future loans. A high-interest rate can result in large monthly payments, which can become unaffordable and cause you to make late payments or to miss payments completely making your credit score even worse.

It helps you prepare for the future

Being aware of your credit and your credit score is critical, especially since you can harm your credit without even being aware of it. If you are not monitoring your credit scores, you may not be in a position to know when there is an issue until it has wrecked your credit. Reviewing your report can help you better understand the state of your finances and warn you when things start to head in the wrong direction so you can take a little course of correction. This way, you will be able to manage your resources better even in the long run.

There certain times in life when we need to spend more cash than we have on hand. The most common way is to borrow the money and pay it back a little at a time if you have reasonably good credit. A personal loan is a type of loan that can be made without collateral, so the lender has no legal recourse such as foreclosing a home loan or repossessing your vehicle for non-payment. It’s used for everything from funding an education, sorting an emergency, financing a new business venture to purchasing luxury items or taking a lavish vacation. Whenever you are looking to obtain a personal loan, it is critical to understand that there are many new, different personal loan options to consider. Among them include:

Installment loans
An installment loan is repaid with a set number of scheduled payments. What happens is you borrow a specific amount of money from a lender and you agree to pay the loan back, plus interest, in a series of monthly payments. To qualify for an installment loan, a lender will look at your credit score, your annual income, and your debt-to-income ratio.

Payday loans
A payday loan is sometimes also known as cash advance. It is a small, short-term loan secured against your next paycheck (expected to be paid in a lump sum) and is typically used for emergencies only. It carries exorbitant interest rates, excessive fees and is considered as one of the most expensive borrowing forms. To be eligible for a payday loan, you simply have to show proof of employment (e.g. a paycheck).

Peer to peer lending
Peer to peer loans also referred to as P2P is a recent entry in the world of personal loans. In this type of lending, loans are financed by real people instead of financial institutions. Lenders are matched with people who are looking for a loan, through an online platform. These individual lenders are ready to take on more risk making the credit requirements for this financing to seem more flexible.

Debt consolidation
A debt consolidation lets you move your debts into one manageable low-interest loan payment to help you pay it off more effectively. A lender provides you with the money to pay off your existing debt with other lenders so that you only have one debt to repay rather than several that are difficult to keep track of. You can lower interest rates by consolidating your debt into one low, fixed-rate monthly payment.

Line of credit
An overdraft or line of credit allows you to overdraw your account to an agreed amount established by the lender (there is a limit to the amount you can access.) Borrowers only pay interest on the money used and not on the maximum amount one can borrow.

Credit card cash advance
It refers to a short-term loan that you can take against your credit card, up to a certain amount. The cash comes from your credit limit, which means you have to pay it back with sometimes very high-interest rates.

Secured loan
If you plan to make an expensive purchase such as a new car, house, furniture, etc., then you will need a secured loan. A secured loan will need you to commit the asset that you are buying or any other asset as security so that in case you fail to pay, the creditor can take your property and use the collateral to recuperate their money. These loans come with low-interest rates because they are considered low risk.

Overstating the importance of a debt not easy. You will gain the intended benefits as long as you utilize the finances as per your intentions. Although debts are perfect for funding investments, life necessities can be so overwhelming for your earnings, warranting an urgent borrowing. But this debt aspect should not be of worry, the tradeoff between interest and utility of the goods and services and, in some cases, inflation can be beneficial to you and your financial lender.

After borrowing, you have to take some precautions to ensure that the debts levels do not get out of hand and make you bankrupt. The following tips and keys to manage your debts are all that you need in your quest for financial freedom.

How to Manage your Debt

Maintain Your Saving Culture or Start to Save

More often than not, borrowing might give you a taste of what money can do triggering an insatiable demand for goods and services that you cannot, otherwise, afford. You should ensure that you continue to make deposits into your savings account or start to save. You can even increase the savings ratio of your income.

Back Your Debts Against Less than 100% of Your Assets

In some cases, you might be offered a debt secured against your assets. There are times when investments funded by borrowing do not yield positive returns. In such a case, the lender might come knocking at your door seeking to reclaim the credit through asset acquisition, if the ration of your assets to the debt is less than 1 you might get a lifeline of rebuilding your financial life later on after security acquisition.

Do Not Modify Your Budgets

Sticking to your financial plan is vital to ensuring that the debt funds serve your needs optimally. Additionally, a budget makes you make the best out of the finances by getting you what you aspire to own.

Avoid Using Credit Cards

Most psychologists and behavioral economists subscribe to the school of thought that credit cards often enhance impulse buying, often translating to overspending. Even though you may be an individual who exercises self-control in regards to demand for goods and services, you should develop a tendency of shopping on cash basis only most of the time.

Keys to Managing Debt

Repay the Debts as per the Agreement Terms

You should closely monitor the credit card’s closing date to deposit the repayments. In such a way, you will be avoiding penalties due to late payments. Moreover, you should take into consideration the various interest rates: If you have a number of debts to service, always pay on time the debt with the highest interest penalties and then proceed to settle the credit repayments for cards with lower interest rates. Although it might be harder to pay off the debts as per the agreement at first, you will definitely realize that with time, you will be settling the balances more easily.

Do not Borrow Additional Money If You Have Pending Debt Repayments

In the event that you find yourself desperately in need of a debt, while still servicing another debt, you have to realize that you are biting more than you can chew. Living your life and abiding by your means can be the greatest tip for managing your debts.

Even in the time of debt crisis, you should not despair. A conversation with your lender can proffer to you the much-needed reprieve to get you back on your feet in the journey of attaining financial freedom by having manageable debts.