Rohit wants to purchase a car and is considering applying for a loan. However, he is hesitant as he plans to purchase a home in next few years. He thinks taking a car loan now will affect his credit score and hinder him from applying for a home loan later. Does he need to fear it?
If you are also in a similar situation and considering whether and how car loans affect credit score in India, here is a detailed guide for you.
The Impact of Car Loans on Your Credit Score
To understand the effect of car loans on credit scores, it is imperative to understand what makes a credit score.
Step 1: Understanding the Credit Score
The prime determinant in calculating the credit score is how well the person pays back the credit. You will likely have a good score if you have a clean and impeccable repayment habit.
How much do you owe? This factor also determines your credit score. If your debt ratio is less, then there are chances that your credit score will be better.
If you have been borrowing and paying the instalments timely for several years, you will have a long credit length and good score.
Your credit score will be good if you have different kinds of debt, including many loans and credit.
Lastly, you should also apply less for the new loans as it impacts the credit score too! Choose your priority carefully, and apply for loans that are truly required.
Step 2: Car Loans Affecting Credit Score
Now that you have understood what makes a credit score, you will have observed that a new loan application hits the credit score. However, it is also significant to know that the effect of a new credit application is minimal. It drops the score only marginally. You can recover the same once you start paying your monthly installments on time.
Applying for a new loan increases your total credit owed. It creates a low credit utilization and better credit score.
A new loan will enhance your credit mix, and you will again get a chance to increase your credit score.
Now, coming to the most important part – loan repayment! Clearing monthly dues on time plays a major role in your credit score. So, if you make regular payments on your car loan, your credit score will improve over time. You can set up an auto-debit facility to ensure you don’t miss a payment. You can also set reminders to alert you that your due date is near, and you should now make the payment. Using these strategies, you can avoid late or missed payments. This is one of the best ways to safeguard your credit score.
Now, what will happen when you miss a payment? Yes, it can hurt your credit if you forget to pay monthly car loans. The lender often provides a grace period of a few days. If you don’t pay within that time limit, your payment will be considered late, and you will have to bear the negative consequences. A payment delay will also be a penalty, like a late fee! If you do not pay the EMI for the entire month or more, the lender will report the same to the credit bureau. The bureau will record the same in your credit report and lower your credit score severely.
Step 3: Does Car Loan Affect Credit Score?
Knowing all the positives and the negatives can help you arrive at a decision – Does a car loan affect your credit score? Its answer depends on you. If you treat the car loan as a priority and do not casually repay the amount, it will only positively impact your credit score.
However, if you neglect your car loan, do not pay the monthly expectations on time, and keep delaying it, it will damage your credit score.
Wrapping Up
Be mindful of certain aspects when you apply for a credit. One of the significant things to consider is whether you will be able to repay the loan. Proceed only if you can. Whether you are applying for a loan for the first time or second, secure credit only when you are confident of paying it back, as it directly impacts your credit score.
For more information and credit score improvement measures, you can connect with Due Factory. We can enlighten you on how a car loan can affect your credit score and how you can improve the score over time!
FAQs
1. Does applying for a car loan affect credit score?
Ans. Whether or not the car loan will be beneficial for credit, depends on how you plan to repay. If you repay the amount timely, it will make your credit score positive. However, if you do not pay the dues timely, it will hurt your credit score.
2. How soon can the auto loan elevate my credit score?
Ans. If you repay your loan timely, your credit score will gradually increase, looking at good credit behavior. However, there is no fixed tenure within which your car loan will improve your credit score.
3. Will prepaying the entire car loan damage my credit score?
Ans. If you prepay the car loan, it can impact your credit score. Initially, there might be a drop in the credit points. However, it will positively impact your credit in the long term as you finish off your debt. So, if you have funds to pay the loan, you can create a bigger and better credit score impact.
4. Does applying for a car loan with multiple lenders hurt my credit?
Ans. Every new car loan application will initiate a hard inquiry. Collectively, if there are many such inquiries, you can have a little loss in your credit score.
5. What is the car loan impact on the credit utilization ratio?
Ans. A car loan does not impact credit utilization directly. A low credit utilization certainly makes the credit score better.