Since the global financial crisis it has been tough to get approval for a personal loan. Financial institutions from banks to supermarkets have tightened their lending criteria and millions of consumers have seen their loan applications declined.
One of the most common reasons to have your application turned down is because you have bad credit. And, in the current climate, bad credit doesn’t necessarily mean being bankrupt or having a County Court Judgement: it can be something as minor as a missed payment on a credit card or going over your bank overdraft limit.
However, if you do have bad credit there is an avenue open to you. Guarantor loans are ideal for people with adverse credit as they don’t involve a credit score. Keep reading to find out more about how these ‘bad credit loans’ could work for you.
What is bad credit?
Your credit file is a record of all the credit you have had and how you have managed it. There are three credit reference agencies in the UK – Equifax, Experian and Call Credit – and they hold information about how you’ve managed all sorts of financial responsibilities from a mobile phone contract to a mortgage.
‘Bad credit’ can mean many things. It typically means that there is some adverse information on your credit file. It can be relatively minor, such as a late payment on a credit card or you may have gone overdrawn for a short time. At the other end of the spectrum ‘bad credit’ can mean more serious issues such as loan defaults, County Court Judgements or even bankruptcy.
Why bad credit will stop you getting a loan from a mainstream lender
When you apply for a loan from a bank or building society, the lender will use a process called ‘credit scoring’. This is made up of two parts:
- Accessing your credit file – the lender will request your credit file from one of the credit reference agencies to establish how you have managed credit in the past
- A credit score – the lender will use their in-house ‘credit scoring’ process to determine whether you meet their required criteria for a loan
If there is adverse credit information on your file there is a strong chance that you will fail to ‘score’ highly enough to reach the lender’s benchmark. While many other factors are taken into account when determining whether the borrowing will be agreed, bad credit is a major negative factor for most lenders.
Why guarantor loans are the answer
A guarantor loan is different to a traditional unsecured loan because the lender will not access your credit file and will not credit score your application.
Instead, you provide a ‘guarantor’ for the loan. This is typically a friend, colleague or family member. The guarantor is someone who trusts you to make your loan repayments to the extent that they are prepared to legally underpin the loan. Your guarantor effectively becomes responsible for your loan if you fail to keep up your repayments.
Instead of credit scoring your application, the lender takes the word and commitment of the guarantor as the basis for the lending. Your guarantor may be subject to credit checks and for larger loans they will have to be a homeowner.
When you apply for a guarantor (or ‘bad credit’) loan you won’t be refused simply because you have adverse credit or because you fail a lender’s credit score.
Bad credit loans can also help you to repair your credit rating
A further advantage of a guarantor loan is that it can actually help you to repair your credit rating and make it more likely that you will be approved for a loan in future.
When you make your guarantor loan repayments every month the lender will report this information to the three credit reference agencies. Over time, your credit file will show that you have made all your regular payments on time. This will demonstrate to lenders that you are capable of managing credit responsibly and it will improve your chances of getting further credit in the future.
It is important to remember that no information is reported back to credit reference agencies for guarantors, even if payments are missed, unless the account goes to court.