How Does a Car Loan Affect Your Credit Score?
A car loan will affect your credit score, but it’s impossible to predict how much it will change. Most borrowers will see a temporary decline in their credit scores after taking out a car loan, but they can gain back those lost points (and more) by making timely payments and reducing their loan balances.
- Applying for a car loan may cause your credit score to drop by a few points due to the hard credit check that is required for loan approval.
- Credit scores are based on several different factors, and auto loans can add both positive and negative information to the mix.
- For a car loan to have a positive impact on your credit score, you’ll need to prioritize on-time payments and keep an eye on your credit mix.
Does applying for a car loan affect your credit score?
Applying for a car loan can potentially impact your credit score. This is because every time you apply for a loan and a hard credit check is run, your score can drop by roughly one to five points.
Fortunately, there are ways to avoid major credit damage when taking out a loan. One of the best ways to protect your credit score is to submit all of your car loan applications within a 14-day “rate-shopping window.”
Credit scoring systems generally understand that submitting loan applications with multiple lenders within a short period of time is not an attempt to get multiple loans but rather an effort to find the most favorable rates and terms. When you make multiple loan applications within the rate-shopping window, FICO and VantageScore only count them as one inquiry, minimizing the impact to your credit score.
Many buyers use dealer-arranged financing for car purchases. With dealer financing, you won’t need to seek out a loan from a traditional or online lender. Instead, you’ll give the auto dealer permission to run a hard credit check.
In some cases, dealers may offer their own in-house financing, but more often, they will share your financial information with one or more preferred banks, credit unions and/or third-party lenders.
This is called shotgunning — the process in which dealerships rapidly send your application to multiple lenders to find the best rate they can offer you. If done properly, this process usually involves multiple hard credit inquiries, but it’s considered rate shopping, so it won’t have a significant impact on your credit score.
Does getting a car loan affect your credit score?
Even though applying for a car loan can cause your credit score to drop by a few points, the impact of a hard credit inquiry is usually temporary. Actually getting an auto loan will have a larger impact on your score over time. This impact could be positive or negative, depending on your credit history and behavior.
For example, taking out an auto loan increases your total debt, which can potentially hurt your score. However, adding an auto loan to your credit portfolio can also diversify your credit mix, which can have a positive impact on your score.
Much like any other type of loan, the long-term impact depends on how you manage the debt. Buying a car can hurt your credit if you fall behind with the monthly payments, but if you make your payments on time, your auto loan has the potential to positively impact your score.
What affects my credit score?
Taking on a car loan can affect your credit score in a few different ways. Here’s what will change as a result of a new auto loan:
- Payment history: Your history of on-time debt payments is the biggest factor in determining your credit score (35%). If you stay current on your car loan payments — meaning you make at least the minimum payment due each billing cycle — you can improve your credit score.
- Credit utilization: For your FICO credit score, 30% is based on the amount of debt you owe. Taking on a new loan can hurt you in this area, but you can improve your credit score by paying down the car loan balance.
- Credit history length: Fifteen percent of your credit score is based on the average length of your credit — the longer you’ve had loans and credit cards, the better. When you take out a new car loan, your average length of account history is likely to drop, but you can improve in this area over the duration of your loan.
- Credit mix: A small part of your credit score (10%) looks at the different types of credit accounts and loans you have in use. If you don’t have any active loans, especially any auto loans, adding one to the mix can help your score improve.
- New credit: Opening new loans or credit cards can hurt your credit score, since new accounts represent financial uncertainty. Yes, new accounts only make up 10% of your FICO Score, but you may see a small drop when you apply for new auto loans.
Reviewing your credit reports before car shopping can help you understand your financial situation and get in a better position to get a car loan with lower interest rates. You can get free copies of your credit files from each of the credit bureaus at AnnualCreditReport.com.
Once you take out the loan, credit monitoring services can help you see what changes occur.
Frequently asked questions
There’s no set time frame for how long it takes a car loan to improve your credit score. After buying a car, you can expect to see your score improve after making on-time payments and paying down your loan balance.
Paying off a car loan early can impact your credit in a few ways. You can lose points if the account is your only active loan. However, you’re likely to see a larger, positive impact from eliminating the debt and lowering your debt-to-income ratio. If you can use the freed-up funds to pay off other debts, you’ll see an even more positive impact on your score.
Every car loan application can potentially hurt your credit score by a few points. However, you can minimize the impact by limiting all of your car loan applications to a 14-day window.
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