By Matt Fernell, Editor-in-Chief at Finance.co.uk. Published 14th December 2023.
It is possible to get a loan if you have bad credit, but it may be more expensive. Luckily, there are specialist money lenders who can help.
They work in a similar way to personal loans but are typically offered by direct lenders and come with higher interest rates.
The lender charges a higher interest rate because they view you as a higher risk. Your poor credit score indicates to them that you are more likely to default on your repayments than an applicant with a good credit score.
If you have poor credit, you will find it more difficult and potentially more expensive to get a mortgage, loan, car finance or even a mobile phone contract.
A low credit score, or even having no credit history at all, makes borrowing difficult. Personal loans for bad credit are harder to get because of the risk you pose to the lender.
If you want to do any of the following financial activities, a lender will check your credit score and history of borrowing money to work out whether to lend money to you:
Take out a loan
Get a credit card
Sign up for a mobile phone plan
Apply for a mortgage
The better your repayment history, the higher your score will be. To lenders, this means you are a reliable borrower, less of a risk, and you may be offered favourable interest rates as a result.
However, if you've struggled with repaying a loan, credit card balance, or bills in the past, your late or missed payments will be reflected in a low credit score, and lenders will consider you high risk.
This means they may reject your application, and it's why people turn to loans for bad credit.
Loans for bad credit work the same way as other types of loans, although some are easier to get approval for than others.
Here are the main types of loans for people with bad credit:
This type of loan typically has a lower interest rate than credit cards, although the interest rate may be higher for people with bad credit.
The interest rate is fixed, and repayments are made monthly. You can choose how long you'd like to repay the loan, but the longer you take to repay it, the more the loan will cost.
A guarantor loan is an unsecured loan that requires someone else, typically a close friend or family member, to guarantee the loan repayments in case you cannot make them.
You will both need to undergo affordability and credit checks, but the loan terms will be the same as a personal loan. This type of loan typically has a lower interest rate because your guarantor is reducing your lending risk.
A secured loan can also be called a homeowner loan. As the name suggests, you need to be a homeowner with a mortgage to be eligible for this type of loan.
If you've got bad or very bad credit, you have a better chance of getting a secured loan because you are considered less of a risk to lenders because of the equity in your property.
If you are unable to repay your loan, your home could be repossessed, and the equity in your home will cover the money you owe.
It can be one of the cheapest ways to borrow with bad credit, although your home is at risk if you fail to keep up repayments.
You will be considered to have bad credit if your credit score is low. Your credit score is determined by how you have managed credit in the past, and things that could damage your score include:
Late or missed payments
Being rejected for credit in the past
Repossession of home or assets
Filing for bankruptcy
County court judgements (CCJs) and IVAs
Lenders use three main credit reference agencies - Experian, Equifax and TransUnion, and each uses a different scoring system.
Here is an indication of what may be considered a poor score for each agency:
Experian: Below 720
Equifax: Below 530
TransUnion: Below 585
You can access your credit report online from a credit reference agency like Experian or via an app like ClearScore.
The amount you can borrow with bad credit depends on the type of loan you apply for and the lender's affordability criteria.
Getting an unsecured loan of up to £25,000 from an online direct lender is possible, but you'll need to pass affordability checks and provide proof of income. Small loans for bad credit will be easier to get approved for and faster to obtain.
A secured loan can be a better option if you want to borrow more than £25,000.
A bad credit loan should be a last resort, and there may be other options available to you. Alternatives you should consider include:
Debt consolidation loans: This type of loan can help you get in control of your debts and improve your credit score. You use the loan to pay off everything you owe, leaving you with one manageable repayment at a lower interest rate.
Credit building cards: You can use these credit cards to build your credit rating back up while borrowing at the same time. They usually come with low credit limits and high interest rates, but you can avoid being charged interest by clearing the balance each month.
Credit union loans: This type of loan typically has lower rates and is much cheaper than a bad credit or short-term loan. However, you will need to be a credit union member or belong to a community, workplace or organisation with a credit union to apply.
Peer-to-peer (P2P): P2P lending is a way of borrowing money directly from other individuals rather than using a traditional bank or lender. It works through an online platform that matches people who want to lend with those who want to borrow.
If you have poor credit, the best thing to do is take steps to improve it. The higher your credit score, the better your chances of getting credit at the best rates. Here are some tips to boost your score:
Register to vote; being on the electoral roll helps to prove where you live
Check for errors on your credit report and get them rectified
Make any existing credit payments in full and on time
Keep your credit utilisation low - below 30% if possible
Avoid changing address often
Look out for fraudulent activity on your credit report
Use a credit builder card, especially if you have no credit history
The information provided does not constitute financial advice, it’s always important to do your own research to ensure a financial product is right for your circumstances. If you’re unsure you should contact an independent financial advisor.