Does a Car Loan Help My Credit Score?
Applying for a car loan could temporarily knock your credit score, but making on-time auto loan payments will help your credit history in the long run.
Author: Eduardo Sanchez
January 24, 2023|Blog
Congratulations — you’re about to buy a new ride to take you on your next adventure! We’re assuming that you’ve already done a bit of research on the model you are purchasing. You know how much you can afford to spend, which make and model you want to buy and the market value (what other people are paying) for that car in your area.
You’re probably not wondering too much about how it might affect your credit score, but if you’re not careful, the short term hit to your credit score could make it difficult for you to apply for other lines of credit.
Expect your credit score to decrease when you start applying for car loans and then increase again when you start establishing a history of consistent, on-time payments on your auto loan.
Do: Ensure you make all your payments on time by setting up automatic payments with your lender. This ensures that you don’t miss a payment and your credit score remains healthy.
Don’t: Wait until your payment due date to figure out how to pay. Any payment delays can hurt your credit score.
How Applying for a Car Loan Can Affect Your Credit
Getting a new car loan has two immediate impacts on your score:
It adds a hard inquiry to your credit report when applying for a new loan. This temporarily knocks off a few points from your score.
Having a new loan added to your account reduces the average age of your credit history. As you make on time payments and the account matures, the auto loan will have a positive impact.
Having a Car Loan Can Help Boost Your Credit Over Time
You can make sure the credit score points you temporarily lose when you applied for the car loan are more than re-gained over time. Your credit score might even get a bump when you move forward with the loan depending on your circumstances. Have a car loan can help boost your credit over time if:
You make all your payments on time. Because payment history is the biggest factor in your credit score, making payments on time and in full should increase your score over time.
It improves your credit mix. Lenders like to see a mix of revolving credit (credit cards) and installment loans (auto loans) in your credit history. Successfully managing a variety of credit accounts will help improve your creditworthiness. For example, if you have only credit cards on your report, adding an auto loan can help your credit score.
However, Buying a Car Could End Up Hurting Your Credit if:
You miss one or more payments. As soon as you miss a payment due date, your car loan may be considered delinquent. You’ll usually have a short grace period where you’ll be able to submit a payment for that period. If a full billing cycle passes and you still haven’t paid, the lender will report your delinquency to the major credit bureaus. This will stay on your credit report for 7 years!
You can’t afford the loan. If you’re struggling to make your car payments, you might fall behind on other bills such as rent, utilities, or credit cards which can be reported to the credit bureaus and negatively impact your score.
Does Your Credit Score Go Up When You Pay Off a Car Loan?
If you make on time payments on your auto loan, your credit utilization goes down which helps improve your credit score. Making on time payments is great for your payment history and will help maintain your creditworthiness for other lenders.
If you are considering paying off your loan early to save on interest make sure your loan agreement doesn’t include any early payment penalties. Some loan terms require payment of the full amount of interest, even if you’re paying early. In this case, keeping the loan for the length of the agreement, and continuing to make on time payments can have a positive impact on your score.
However, on the opposite end if you find yourself struggling with paying on time, it could be worthwhile to check if you are eligible for a loan extension. This allows you to skip a few payments without penalty to catch up with your finances, generally this can be requested without a fee. Always check with your lender to see terms and conditions of a loan extension.
Check Your Credit Report Often
You’ll want to be cautious of how long you take searching for a car and assessing your financing options since running several credit inquiries over time when applying for a loan can negatively impact your score. Try to shop around and price compare your options for a car loan within a few weeks.
You can always use online car platforms to communicate with car dealerships to search vehicles available in your area. This helps reduce unnecessary trips to the dealer and running the risk of having several injuries added to your account. In addition there are several tools such as online payment calculators that allow you to estimate a payment based on your down payment and interest rate with your credit score already in hand.
Checking your credit score regularly results in a soft inquiry that doesn’t hurt your credit score, so don’t be afraid to check it often. You are entitled to one free credit report annually from each of the three nationwide credit bureaus. With the Arro app you can keep an eye on your credit score as often as you want. A good rule of thumb is to check your score before any hard inquiries are run with a lender and then afterwards to ensure they are reported correctly.