If you have been rejected on a loan application due to a low credit score in the past or you have done your research and believe you are ineligible thanks to your credit history, you might believe you have no options. However, bad credit loans could offer you just the alternative you need.
Some people have misconceptions about bad credit loans or will take them without fully understanding what they are and how they work. Here, we’re going to try and arm you with the information you need on bad credit loans, how they work, when you should use them, and how to use them responsibly.
What are bad credit loans?
As the name suggests, bad credit loans are loans designed specifically for those who may have trouble borrowing from other lenders due to a poor credit history or low credit score. They are much more broadly accessible, but this doesn’t mean that you are 100% guaranteed approval for a loan. Some eligibility criteria will still apply, especially your ability to pay them back. However, while it may be checked, your credit score will not play as significant a role as it does in other loan agreements.
Differences between bad credit loans and more traditional types
There are a few major differences between bad credit loans and loans from other organisations like banks. Some of these differences may or may not apply depending on who the lender is and what kind of loan you are agreeing to.
The most common difference, however, is a higher interest rate and APR. There is a recently introduced interest cap on certain agreements like payday loans which ensure that lenders can’t charge whatever they want. Reputable lenders try to keep interest rates as low as is feasible to ensure borrows can make their repayments, too. In general, however, because they don’t have the assurance of borrower reliability that other lenders do, bad credit loans have a higher interest in general.
Bad credit loans also tend to be more accessible. The application process is much smoother, it doesn’t require as much information, and often it doesn’t require a guarantor or any collateral. This means that applications can be approved and processed more quickly, meaning that you get the cash you need sooner.
Flexibility is the last major difference. Lenders like banks have more strict definitions on their loans. With bad credit loans, you may be able to borrow smaller amounts than banks will offer. This is particularly helpful if you have an emergency expense you need to cover but you don’t want a large loan to go with it. You may also have greater flexibility in setting a repayment period, so you can stretch loan repayments out over a longer time if you want to make repayment instalments smaller.
Different types of bad credit loans
There are a few different kinds of bad credit loans worth knowing. Here, we’re going to look at common terminology and distinctions so you know what kind of loan to expect:
- Payday loans: These are very short-term loans that tend to offer small amounts of cash that you can pay on your next payday. While they have had a bad reputation in the past due to unfair lenders, newly introduced interest caps and regulations have made them safer.
- Guarantor loans: These are loans in which the borrower has a guarantor sign their loans. If the borrower fails to pay back the loan, the guarantor will cover the rest.
- No-guarantor loans: As the name suggests, some loans do not require a guarantor. It can mean heavier penalties if you fail to repay a loan but offers options to those who don’t have access to a guarantor.
- Secured loans: These are loans in which certain assets, like homes or cars, can be used as collateral in order to secure a better interest rate or a higher loan amount. “Homeowner loans” refer to those that use property as a collateral and “logbook loans” are those that use a car instead.
These definitions are not strictly fixed and some loans can have the qualities of more than one of the categories at once. However, if you see a lender using these terms, the definition above can help you get some understanding of what they are referring to.
Why credit matters
Though bad credit loans offer options to those who can’t use it in their favour, there is no denying that credit is important. When it comes to borrowing and debt, many don’t understand fully why it is.
Essentially, your credit is how banks and other lenders judge your ability and reputation when it comes to reliability in paying back loans and sticking to other credit agreements. Besides loans and debt, it can be affected by making or missing rent payments, missing bills, and other long-term financial agreements like online subscriptions.
Lenders will look at your credit score, credit report, or both. The credit score is a numeric representation of how “good” your credit, with any score above being ranked as “good” in general, scores under 380 being “poor” and scores under 280 being “very poor.” A lender’s criteria as to which credit score is good enough for them can change depending on the lender, but these general rules apply most of the time.
Your report, on the other hand, is a list of past credit agreements and, most notably, any failures on your part during those agreements. This can include late payments, arrears, CCJs against you, and past bankruptcies.
Banks may decline to lend to you not only if you have a poor credit score but also if you have no credit history. Bad credit loans can help you not only acquire a loan that you might not get otherwise, but they are often used to build better credit reports and improve credit score.
What to know before you apply for bad credit loans
Although it is easier to apply for and be approved for bad credit loans, you should still do your research before you jump into any agreement
There have been a few disreputable lenders that will use lots of hidden fees and very high interest rates to take advantage of borrowers. Some will also use aggressive and harassing collection tactics if repayments are late. The first thing you should pay attention to is the reputation and online reviews of a lender. Make sure they have a good track record before relying on them.
Then you need to look at the specifics of the loan itself. Learn their eligibility criteria. Though bad credit loans are easier to obtain, you can still be rejected from them on criteria like not having enough of an income to make repayments. A rejection can hurt your credit score even more, so do your research. Many lenders have eligibility checkers that can give you a better idea of whether or not you will be approved without posing any risk to your credit.
Finally, make sure that you know you can afford the repayments once you have learned what kind of loan you might be approved for. See where the proposed repayments, including interest and fees, can fit into your budget. If you can’t do that, it might be worth reconsidering or borrowing a smaller amount.
The application process
Application is simple and fast compared to traditional lenders like banks, but a little preparation in advance can help things go much more smoothly. Make sure you are eligible, first and foremost and do the research mentioned in the last point.
When you have done your research, you should put together the supporting materials you might need for the application. Providers of bad credit loans will want to see your ability to repay them. Having past income statements, as well as a budget of existing expenses and debts will help you get approved.
Lenders will also check your credit report. While you are not likely to get rejected due to bad credit, as is the nature of the loan, it is still checked as a matter of course.
When you should and shouldn’t use bad credit loans
Whether and when you use bad credit loans is a matter of judgement for the borrower, personally. If you are approved, you can take one. However, we do have some advice on when to and when to not use them. Bad credit loans can be useful it:
- You have emergency bills, expenses or car repairs you need to cover quickly
- You want to improve your credit score or start building a credit history
- You are selling property, but you need to cover the upfront fees
On the other hand, you should reconsider using bad credit loans if:
- You plan to use it for non-essential purchases like a holiday.
- You aren’t certain you can make repayments.
- The lender has a reputation for bad practice.
Bonsai Finance offers loans specifically tailored to those with a bad credit history or low credit score. We aim to make our loans as advantageous and manageable for you as possible, while also ensuring that you are fully aware of what to expect when taking them.