If you have ever applied for any credit, then you will be familiar with your credit score. Your credit score is a score that is given to you based on your credit report.
Your credit report is essentially a history of all your financial decisions, focusing on any decisions centred around credit and borrowing money.
If you have ever used a credit card, then this will show in your credit report. If you have ever bought a car with a finance agreement, that will show in your credit report.
And if you have used a gambling website in recent months, that will also show in your credit report.
Your credit report is essentially a report of your financial transactions, and from this you will be given a score. So, the score is essentially a rating of your creditworthiness.
Every financial decision that you will make has an impact on that score, so if you are wondering if short term loans affect your credit score, then the answer is yes. In this guide, we’ll tell you why – so keep on reading to find out more!
What Is A Short-Term Loan?
First things first, let’s take a look at what a short-term loan is. As the name suggests, a short-term loan is a loan that is obtained to support a temporary need.
Typically, short-term loans are for a small amount of money and they pay out quickly. A great example of a short-term loan is a payday loan.
Short-term loans are used by businesses and individuals alike. You may take out a payday loan to cover a delay in your salary if you haven’t got the funds to cover your expenses.
Likewise, businesses might take out short-term loans to cover employee wages or other expenses if there is a delay on an incoming payment.
Apart from the fact that they pay out almost instantly, and that they are typically for smaller sums of money, short-term loans are just like any other type of loan.
You will need to repay the amount by an agreed date, you will need to make monthly repayments towards it, and you will pay an agreed amount of interest on the loan.
Typically, for short-term loans, you will be expected to repay the money you borrow within one year.
What Is The Difference Between A Short-Term And A Long-Term Loan?
So, as we have just established, there isn’t actually that much of a difference between a short-term and a long-term loan.
Both of these loans allow you to borrow a lump sum of money, they both allow you to borrow it across a set period, and they also allow you to make monthly repayments to repay the value of the loan (plus interest).
Both of these loans will also come with an APR which is an annual percentage rate of interest that will be charged on top of the loan.
The biggest difference between a short-term and a long-term loan is the repayment schedule.
Short-term loans tend to be for smaller amounts of money, and so you will typically be expected to repay the full amount (plus interest) within a few months to a year of taking out the loan.
In contrast, long-term loans tend to be for large lump sums of money, and as a result you typically have years to repay the money that you have borrowed.
The other difference between the two is often the intention of the loan. Typically, a lot of people will use short term loans to cover emergencies, such as unexpected car maintenance fees or an unplanned visit to the doctor.
Whereas long term loans tend to be taken out for pre-planned things and larger financial responsibilities.
Do Short Term Loans Affect Your Credit Score?
If you are considering taking out a short term loan, then you may be wondering if this will impact your credit score. In short, the answer is yes, it will.
Short term loans are very similar to long term loans, and as a result they will affect your credit report in the same way as a long term loan.
It is common for your credit score to drop slightly when you first take out a loan. This is because you have increased your credit utilisation and this statistic has an impact on your credit score.
However, as long as you make your repayments on time each month, then your credit score will bounce back.
In fact, making monthly payments on time can actually improve your credit score. This is because these repayments show that you can borrow responsibly which makes you more creditworthy.
In contrast, if you fail to make your repayments on time, then this can have a negative impact on your credit score.
Missing repayments can lead to a default on your credit report, and the more this happens, the more damaging it will become.
Every missed repayment will have a negative impact on your credit score, and cause it to drop lower and lower.
This will be a sign to lenders that you are not creditworthy, and it could impact any future credit applications that you make.
If you have a poor credit score, then it makes it much more difficult to get a mortgage or loan in the future, so missed repayments could have a long term effect on your life.
It is worth noting that even if you make your repayments on time, the short term payday loan that you have taken out will still appear on your credit report for around 6 years.
So this may be an instant fix, but the effect of the loan will linger for a long time.
What Are the Risks Of Short Term Loans?
A lot of people refer to short-term loans as being risky. There is a general view that payday loans can be very damaging to you and your credit score.
But what are the risks of short term loans? Let’s take a look.
Short Repayment Schedule
Short-term loans come with an equally short repayment schedule, and this can make it difficult to make your repayments on time.
This is something that many people ignore when they first take out the loan, but the monthly repayments can be very high in relation to other monthly payments.
High Interest Rates
Short-term loans have some of the highest APRs among all loans. So, even though short-term loans are for smaller amounts of money, the amount of interest that you pay is usually higher.
This can be very risky as the APR is something that many people don’t pay attention to when they take out a loan.
There are a lot of scams associated with short-term loans, and that is a big part of the reason why these loans are often viewed unfavourably.
There are many lenders out there that will prey on those who need to borrow money, and scam them, which is why these loans can be risky.
In short, short term loans absolutely do affect your credit score. They have the same impact on your credit score as long-term loans, and they will stay on your credit report for about 6 years.
Thank you for reading!