Each year, personal loans are taken out by millions of people around the globe to cover unexpected expenses, renovate homes, consolidate debt, and more. These loans are likely appealing to individuals due to typically small loan amounts and often lower interest rates compared with other traditional loans. However, that doesn’t mean personal loans are the most suitable option for every situation and individual. If you’re considering applying for a personal loan, here are some important factors you should know before making the final decision:
How personal loans work
Personal loans are installment loans, meaning that you borrow a predetermined amount of money and pay it back in regular installments with interest over the loan term. After the loan has been paid off in full, the account is typically closed. In case you need to borrow more in the future, you will have to take out a new loan. While loan amounts may vary based on the lender and your financial situation, the sums generally range from a few thousand to a few hundred thousand dollars. The exact sum you will qualify for will depend on your credit, or how confident lenders are in your ability to pay back the borrowed money.
Types of personal loans
Personal loans are typically divided into two categories – unsecured and secured. Unsecured personal loans don’t require any collateral. Lenders will decide whether applicants qualify according to their financial history. When individuals don’t qualify for unsecured loans or they look for lower interest rates, secured loans can be offered as well. Secured personal loans, however, require some form of collateral, such as a certificate of deposit (CD) or a savings account. In case borrowers are unable to make their regular payments, lenders have the legal right to claim this asset as a form of payment for the borrowed sum with secured loan options.
Where to get a personal loan
When we think of places where we can apply for a loan, banks often come to mind first. But banks are not the only financial institutions that can provide you with a personal loan. For instance, you can apply for online loans simply by filling out an application on a lender’s website. The contract is signed digitally, the payout process is completed quickly after approval, and there’s no need to leave your home in order to receive a loan. This makes online loans the fastest and most convenient solution for many consumers. Other places where you can get personal loans include credit unions, peer-to-peer lenders, consumer finance companies, etc.
Credit score impact
When applying for a loan, lenders will typically pull your credit as a regular aspect of the application procedure. This is called a hard credit inquiry and may slightly affect your credit score in certain cases. If you decide to shop around for the best offers and rates, certain lenders you already have accounts with can also review the status of your credit. This is called a soft credit inquiry and won’t impact your credit score in any way. It might be wise to check credit rates with lenders that do soft inquiries, to avoid negative credit impacts and increase your chances of securing a good loan.
Interest rates and fees
Fees and interest rates determine how much money you end up paying over the loan term. They can drastically vary from one lender to another, but there are a few aspects to consider in any case. The interest rates will depend on your credit and the lender’s offers (ranging from 5% to 36%). Better credit scores typically come with lower interest rates, while longer loan terms come with more accumulated interest to pay. Certain lenders will also charge an origination fee for processing the loan, generally from 1% to 6% of the borrowed sum. Other lenders will also charge a prepayment penalty if loans are paid off early. Keep all of these aspects in mind before signing the contract.
Personal vs. other loans
Even though personal loans can quickly provide the necessary cash for a number of different situations, they aren’t the best choice for everyone. For example, those with good credit could qualify for a balance transfer credit card. Providing a 0% introductory annual percentage rate, this credit card can be a good option for individuals who are able to pay off their balance before the interest rates go up. For homeowners, a home equity line of credit or loan can also be a good solution. These loans can provide financing for larger amounts at lower rates, but the house does become the collateral in this instance, giving lenders the right to foreclosure.
Personal loans are a great option when you need cash quickly for specific purposes, but there are a number of factors you should consider before applying for one. Weigh the aspects mentioned above when deciding whether a personal loan is the right option for your situation.