Just because loans come with interest rates doesn’t mean you have to get saddled with a high one. There are things you can do now to prepare for your loan and to make sure you get the best interest rate possible.
First, let’s take an anatomy lesson… on interest.
Lenders charge interest on money you borrow so they can make money. That’s just how it works. It’s a way to ensure the lender gets paid if a borrower defaults on a loan. The interest rate determines the cost of your monthly loan payments. It’s calculated as a percentage of your loan balance that’s spread across your loan term, which is the length of time it takes to repay the loan.
Each month you make a loan payment, a portion of your payment goes to reducing your loan balance, while another portion pays your interest. That means you’ll end up paying more than what you actually borrowed. Yeah, that’s a bummer, but it’s all part of the cost of borrowing money.
How do lenders decide your interest rate?
Most people assume their credit score is the only factor that determines how much interest a bank charges them. Not quite. Your credit score is a huge factor because it shows lenders how well you have (or haven’t) handled debt in the past.
But lenders also inspect your debt load in relation to your income (also called your debt-to-income ratio); your history of making (or missing) payments; how many times you’ve applied for credit; and what, if any, blemishes might show up on your credit report.
Here are some things we’ve learned that people getting the lowest rate offers tend to have in common.
Lower debt load
Your debt-to-income ratio gauges how much debt you have in comparison to your income. Lenders prefer borrowers with a DTI that’s 41% or lower. Anything higher suggests you may have too much debt on your plate and taking on another loan could be a burden. A high DTI also tells a lender that, if they approve you for a loan, you may have trouble making payments, which means they’re going to give you a higher interest rate to compensate for the risk.
If your DTI is too high (the LendingTree app helps you figure that out, by the way), you can make a few changes to lower it.
- Consider increasing how much you pay towards your debt each month. Making higher payments more often will help eliminate your debt load faster.
- Target and pay off bills with higher balances, which have the most impact on your DTI.
- Use a balance transfer credit card to move your high-interest debt onto a card with a 0% APR period so you can attack your debt without paying interest.
- Cut back luxury spending (like eating out or daily Starbucks runs) so you can devote more money to paying down your debt.
- Find ways to increase your income. Negotiate a pay raise at work or start a side hustle.
Your tendency to make (or miss) debt payments can influence the kind of rates lenders give you. Some lenders will raise your interest rate if you’re late on your payments, no matter your credit score. Aim to make your payments on-time every time. The more you do that, the more lenders will consider you trustworthy and give you lower rates.
They don’t apply for loans all the time
Be careful with the frequency of your credit and loan applications. Too many within a short timeframe raises red flags for lenders because they’ll think you depend too much on debt. To them, that lowers the likelihood you’ll repay them.
When you apply for a loan or credit card, lenders make a hard inquiry on your credit report. Multiple hard inquiries can lower your credit score, which raises the chances of lenders giving you a higher interest rate.
Typically, your credit won’t get dinged if you’re rate shopping for the same kind of financial product, such as a mortgage or auto loan. But not all lenders honor this consideration, so you should be careful.
Clean credit reports
No matter what kind of loan you’re getting, blemishes on your credit report will make scoring a good rate challenging.
Check your credit report for errors. If you find any, connect with Ovation Credit Services to dispute inaccurate information, which may improve your credit score and better your chances of getting better rates. Download the LendingTree app to get unlimited access to your credit report and dispute wrong info right from your phone.
Delinquent accounts resulting from unpaid debt can stay on your credit report from seven to 10 years. That doesn’t mean lenders will outright dismiss your application. Some may ask for a letter explaining seeking more information about derogatory marks on your credit report. Here’s help on how to write one.
A tendency to shop and compare
One of the best ways to ensure you’re getting the best rate is by shopping and comparing lenders. No two lenders are the same. That means just because one lender gives you a higher rate for whatever reason doesn’t mean the next one will, too.
LendingTree’s marketplace of lenders is the perfect place to find rates best for you. After answering a few questions, you’ll get competitive offers from lenders waiting to compete for your business. You’re under no obligation to choose the lender with the highest rate. See a rate you don’t like? Don’t pick it.
Start shopping for low rates today.