How to Get a Loan During a Recession

Does a Recession Affect Your Ability to Get a Loan?

Many lending impacts in a recession are indirect. Unemployment may rise, increasing the likelihood that you won't be able to pay your debts. Home values may drop as well, reducing the amount of equity you have in your home and limiting your ability to sell profitably. Even if you manage to avoid losing your job or being "underwater"—owing more than your home is worth—on your mortgage, the level of risk that any borrower represents is higher during a recession. Just as a rising tide lifts all boats, a recession makes everyone—borrowers and lenders alike—a little more vulnerable.

As a result, lenders are likely to take a harder look at your credit scores and reports when the economy is tight. When you're looking to get credit during an economic downturn, be prepared for lenders to scrutinize the following information:

• Income: As always, the more regular your income is, the better. If you've recently lost your job or been furloughed, the disruption to your income may be a red flag.
• Credit score and report: Your credit history shows lenders how you manage credit and debt. Do you make payments on time? Have you ever defaulted on a loan or declared bankruptcy? Also, it provides a snapshot of how much you currently owe, which will help lenders determine how much additional debt you might be able to shoulder.
• Debt-to-income ratio: Lenders consider how likely you might be to repay a loan by looking at how much of your income you use to make your monthly debt payments. For instance, if your current mortgage payment accounts for 50% of your income, refinancing to a larger loan might be impossible.
• Assets: In a financial emergency, would you have the funds to continue making loan payments? Savings are key.
• Down payment: "No money down" home and auto loans might be harder to come by—or harder to qualify for—in a recession. On the other hand, if you can put a larger down payment on a new loan, you might improve your chances of approval.

During a recession, lenders are likely to set the bar a little higher for these parameters. For example, they may require a higher FICO^® Score^☉ for you to qualify for the best rates or a lower debt-to-income ratio when setting a loan amount. They may also simply approve fewer loans if the economic environment seems risky.

How to Improve Your Chances of Qualifying for a Loan During a Recession

The best way to increase your chances of qualifying for a loan is to decrease the level of risk you represent. To do this, take a moment to understand your current financial status.

Start by checking your credit score and report. You can download a free copy of your credit report once a week from all three credit bureaus (Experian, Transunion and Equifax) at AnnualCreditReport.com. Knowing your credit score will help you shop, since different lenders may set different criteria for the best rates and approval. A FICO^® Score of 730, for instance, may be considered "good" with one lender and "very good" with another.

If a family member or close friend is in a position to help, consider adding a cosigner to your loan application if allowed. A cosigner agrees to accept responsibility for repaying your loan in the event that you cannot. A cosigner with a high (or steady) income, substantial assets and/or a high credit score can boost your ability to qualify for a loan or to get better rates and terms. However, be aware that cosigning is a risk for your friend or family member. Before asking them to cosign, be sure that you'll be able to pay back the loan without defaulting or damaging their credit.

There are many ways to improve your credit score. Here are some tips to get started:

• Reduce your credit card utilization (your balance relative to your credit limit) to 30% or less on all of your credit cards.
• Catch up on past-due payments and make all payments on time going forward.
• Get added as an authorized user on a family member's established credit card.
• Dispute any errors on your credit report.
• Factor on-time utility and phone payments into your credit score using Experian Boost^®ø.

Factors to Consider When Comparing Loans

How do you get the best deal when you're shopping for a loan? Different interest rates, loan terms and loan amounts can make comparisons confusing.

Use a simple loan calculator to figure out approximately how much a loan will cost you. You'll need to know the amount you're borrowing, interest rate and loan term to make this calculation. A loan calculator can tell you roughly what your monthly payment will be and how much you'll pay in interest over the course of the loan. Plug in different numbers to get a range of scenarios or compare the costs on multiple loans.

Additionally, take into consideration any down payments, fees and upfront points you'll need to pay in order to get the loan: Some may cost you quite a bit. Find out how long it will take for your loan to fund if time is a factor.

One caveat for borrowing during a recession: Try to avoid adjustable-rate loans. Interest rates traditionally drop during a recession, as the Federal Reserve may take steps to keep interest rates low to stimulate the economy. If you choose an adjustable-rate loan when rates are at their lowest, you'll see a rise in your rate and monthly payments when the economy improves and interest rates go up.

Loan Alternatives for When You Need Money in a Recession

If conventional loans aren't a good option for you, you might consider alternative sources of money. Lenders that cater to borrowers with poor credit—such as payday lenders and auto title lenders—charge high interest that makes it difficult to pay off your loans. Try to avoid these types of loans if at all possible.

Here are three alternatives to a traditional installment loan:

• Borrow from friends or family. Asking for money or a loan from friends or family is serious and should never be done lightly. Still, if you have friends or family with ready resources and you're confident that you can repay them, take the time to iron out an interest rate and repayment terms (and put it on paper) in advance to avoid any conflict or misunderstanding.
• Look for nonprofit programs that might help. Borrowers in need may want to look into lending circles such as Mission Asset Fund, a nonprofit organization that helps people establish peer-to-peer lending groups. Lending circles don't rely on traditional lending criteria and do report to credit agencies.