Getting a personal loan involves knowing your credit health and comparing your loan options to find the lowest interest rates and best terms.
While we always recommend having a hefty savings account so you can financially weather a rainy day, sometimes, life doesn’t work out as we planned. Maybe you had a medical emergency and your health insurance didn’t cover the total cost. Or perhaps you’ve missed work and rent is due. These are worst-case-scenario circumstances, but they can happen to anyone.
When you’re faced with financial challenges without adequate savings to get you through it, you can apply for a personal loan. Generally, you’ll need a good credit score but you can expect lower interest rates and fees compared to other types of loans.
Wondering how to get a personal loan? Here are the steps you can take to obtain one. If you’re interested in a particular topic, use the links below to jump straight to that section:
- Get Your Credit Score
- Decide Between an Unsecured or Secured Loan
- Compare Lenders
- Tips for Getting a Good Personal Loan
- Check Your Other Personal Loan Options
- Apply for Your Personal Loan
Personal Loan vs. Payday Loan
Personal loans are sometimes confused with payday loans but they’re very different in terms of their repayment structure, risk, and interest fee rates.
Personal loans generally require good or excellent credit. If you have poor credit, you may be able to get a payday loan but they are a high-risk, short-term solution that can easily lead you into a cycle of debt if you fall behind on interest payments.
A payday loan is usually for a smaller amount of money – $500 or less – so they’re not great if you need to make a major mechanical repair on your car or pay for other similarly large expenses.
When you apply for a payday loan, lenders will ask about your employment and your earnings. Depending on the particular lending company, you might have to give them access to a bank account the lender can draw from, or you might be required to send a post-dated check for the amount of the loan plus a finance fee that covers the costs of borrowing, by your next payday.
Payday lenders usually do not check your credit so it won’t affect your credit score because there is no hard inquiry.
However, a payday loan can affect your credit if you don’t pay off the total balance of the loan by your next paycheck. A two-week payday loan typically has a set rate they’ll charge for every $100 you borrow. $15-$30 per $100 is the standard.
So, while payday loans look like a quick fix option, there’s substantial risk involved. It’s dangerous if you’re borrowing more than you can pay back because you can get stuck in a loop of paying down the interest instead of paying off the actual debts you owe.
What Should I Look Out for with Payday Loans?
The Federal Trade Commission suggests consumers shouldn’t regularly rely on payday loans to make ends meet or to pay for things that far exceed their net income. The APR (annual percentage rate) on these loans are as high as 400%, sometimes even more. If you want a comparison, for credit cards, the APR is generally between 12% and 30% in most instances.
Payday lenders sometimes use misleading advertising to prey on financially-strapped, desperate borrowers. Be wary when applying for payday loans if this is the loan option you choose.
Specifically, look out for upfront fees that “guarantee” a payday loan. Reputable lenders will never charge you anything before you’re approved for a loan. The only charges you should see on your account is after you’ve received your funds for your loan.
If you’re applying for a payday loan online, be cautious of fraudulent sites. Do your research to find reputable online lenders and read reviews. It’s a good idea to check the Better Business Bureau to verify what companies are trustworthy.
Ideally, you can avoid payday loans altogether and opt for a personal loan which allows you to pay off the loan with lower interest rates and feature a less penalizing fee structure.
Getting a Personal Loan
If you’re ready to apply for a personal loan, you should take the time to look at what you’ll need to get approved.
First, spend some time researching the different types of loans that are available. And as always with anything you sign, check the fine print. That’s where the important information is going to be inconveniently nestled. You’ll need to read the terms so you can determine the fees, interest rate and other details about the loan.
During your initial research, you can also compare multiple personal loan rates to get an idea of where you stand.
These are the questions you need to be prepared to answer when applying for a personal loan:
Minimum income requirements for a personal loan: There isn’t a universal amount you need to make in order to get a personal loan. Instead, lenders will have their own set of parameters they’ll use in conjunction with the details of your financial history and how much you’re borrowing. Lending companies consider many different aspects of your finances, but an important financial detail across the board is your debt-to-income (DTI) ratio. This number helps lenders decide if you’re already overburdened with debt repayment and how likely you are to repay the loan.
It’s also important to be financially honest with yourself when you decide to take out a loan. You can do the math before starting the process and figure out your repayment based on the fees, likely interest rate, loan term, and the total amount you’re borrowing.
If lenders calculate your debt-to-income ratio at 40% or above, it may be in your best financial interest not to accrue any more debt. For most people, above 40% is an unsustainably large portion of income going straight to paying off loans.
With this information in mind, you can go through the steps of getting a personal loan more efficiently, starting with checking up on your credit health.
1. Get Your Credit Score
Your best bet for putting yourself in a good position for getting approved for a personal loan with a low interest rate is having good credit. On some sites, you can check your credit score for free, while others charge a fee. Remember you’re entitled to one free credit report per year from each of the three national credit reporting agencies.
When you look into your own credit, it doesn’t count as a “hard inquiry”, and therefore it doesn’t count against your credit. These types of credit checks are known as a “soft pull” or “soft check”.
If you have lackluster credit after looking into your credit history, consider spending some time building up your credit instead of resorting to short-term, high-risk payday loans so you can avoid perpetuating your cycle of debt. If you look at your report and find errors, you can always call up the reporting agency and dispute mistakes.
To build up your credit in other ways, consider avoiding opening new lines of credit, pay down the balances of your credit cards, and make sure all of your bills are being paid on time.
Not sure where your credit scores fall? Every person has a variety of credit scores, created by different bureaus using a different methodology. However, many lenders use FICO credit scores during their approval process.
These FICO ranges can help give you a good idea of where you’re at with your credit score currently:
- 800-850 Excellent
- 740-799 Very Good
- 670-739 Good
- 580-669 Fair
- 300-579 Poor
One way to raise your credit score is simply reliable monthly payments toward things like your rent or auto loan or paying off the total balance of your credit card. If you’re patient and can afford it, it may be worth waiting out the time it takes to build a positive credit history because it may result in better loan terms like lower interest rates and fees. It may also open up your loan options instead of being limited to a few that take poor credit scores.
2. Decide Between Unsecured vs. Secured Personal Loans
Personal loans are either secured with collateral or unsecured and backed by your credit history aka what financial institutions call your “creditworthiness”. The difference between them is what happens when you fail to pay back the loan or become delinquent on your payments.
Secured Personal Loans
Secured personal loans usually have a lower annual percentage rate (APR) because the creditor has assets to seize if you default. This will only happen if the creditor is given legal permission to take the collateral. In most cases, you’ll likely have one last chance to settle your debt before your collateral is seized.
A secured personal loan is good for borrowers with poor to average credit who can’t get an unsecured loan. Secured personal loans are rarer and usually offered by banks, financial institutions like credit unions, and a few online lenders that offer these types of loans with collateral like a car, or a savings account.
You might be more familiar with other types of secured loans like auto loans, a home equity loan, or a mortgage. These are loans wherein the bank can take back the main asset, the car or house in these examples if you default.
Unsecured Personal Loans
An unsecured loan is based on your creditworthiness alone. If you stop making payments, the lender can’t take your house or car.
The APR on an unsecured loan can be higher than a secured loan because the credit company doesn’t have any asset or collateral to seize if you default.
But don’t think you won’t have issues if you stop paying back your unsecured personal loan, borrowers will face a damaged credit score and your loan amount might go to collections. The credit company would have to sue you in court to collect what you owe.
These types of loans are best for people with good or excellent credit who are risk-averse and don’t want to lose a car or other assets. These loans can consolidate debts like credit card debt or be used to finance large purchases.
Unsecured personal loans can be obtained through credit unions, online lenders, and banks. Rates and terms depend almost entirely on your credit scores and how much you make, your creditworthiness in fewer words.
3. Compare Lenders
If you don’t have traditional banks around you, you always have the option of using the web-based lenders to get your personal loan. With online lenders, you can typically expect lower rates and fees for a variety of reasons, including low overhead costs, and fewer regulatory costs.
The drawback is that there is no face-to-face interaction, so you won’t get the same customer service as you would going into a bank, for example.
If you do decide to go with an online creditor, make sure the website is secure and that the creditor actually checks your credit. If they’re promising you a loan without checking your credit, that’s a red flag, as reputable lenders will never guarantee a loan without looking at your credit history. As with any institution, check reviews and research thoroughly.
When you’re weighing your loan options, consider talking to your local credit union. Smaller banks and credit unions sometimes offer some of the lowest rates and have more flexible options with repayment – especially if you bad credit, smaller financial institutions may be more likely to work with you. If your loan amount is small – $2500 or less – your chances of getting approved by a credit union may go up even more.
If you’re wondering how to get a personal loan from a bank, some bigger banks offer unsecured personal loans, while others offer secured personal loans with bank accounts and cars as collateral.
To make the right decision for your borrowing situation, take into account the length of your loan, the amount, the interest and fee schedule, and customer service needs.
4. Tips for Getting a Good Personal Loan
These steps for how to get a personal loan are a good starting point but it’s important to remember to look into the particular details of your loan to make sure you’re getting a good deal at a sustainable rate.
Watch out for origination fees. When you’re applying for a loan, there’s a chance you’re paying for an origination fee. This charge is usually based on a certain percentage of the loan amount you’re applying for. It can be 0.5%-2% depending on the lender.
You might not see this fee by itself upfront. It could simply be added to your final loan total. The percentage of the origination fee is critical if you’re taking out a large personal loan because it can increase the overall interest paid (since the total amount of the loan is rising with the addition of the origination fee). Your lender may also deduct the fee from the amount that you receive.
Ideally, you’ll find a loan with no origination fee but if you can’t, look for a loan with a low fee that won’t astronomically raise your total loan amount.
Avoid loans with prepayment penalties or exit fees. If you pay back your loan early, you’re cutting into a bank or lender’s profits. You’re paying less interest because you’re cutting down the lifetime of the loan. To avoid paying for this fee, make sure you ask about prepayment penalties. They’re designed to protect the bank, not you.
Ask banks how they calculate their interest on the loan. Financial institutions have a couple of options when it comes to figuring out the interest rate on your loan. One way is calculating simple interest fees based on how much you borrow, the fixed interest rate and the loan term. The other option banks have is to compound interest over the life of the loan, so that means interest is accruing on top of pre-existing interest as you’re paying down the principal.
Watch for automatic withdrawals. If you’re setting up repayment through a bank account, consider having overdraft protection as well as low balance alerts set up on your account.
Try to look for flexible terms. Borrower-friendly features like flexible payment schedules can help you if your finances go south while you’re repaying your loan. Some lenders might allow you to miss one or two payments or give you a grace period before charging a late payment fee.
5. Check your Other Personal Loan Options
Your personal loan options aren’t limited to just traditional loans.
If you can get a credit card with 0% interest for the first year (or longer), sometimes this may be a good option if you can’t get a loan otherwise. If you can repay the money within the year or within the introductory rate period, this may be the cheapest, most efficient choice.
Another option is to have someone cosign for the loan. This is a good idea for people who otherwise wouldn’t be able to get a loan on their own. Both the credit history of the primary borrower and the credit of the co-signer are taken into account during the loan application process. However, it can strain the relationship with the co-signer if it falls on them to pay the loan back.
Borrowing from friends and family is always an informal but realistic option if you have a solid relationship that can survive the ups and downs of lending (you don’t want to be a Judge Judy episode if you can help it).
6. Apply for Your Personal Loan
Assuming you didn’t go with an alternative loan option, now you’re ready to submit your loan application to a specific lender. You’ll need proof of identity, like your social security number and ID, for example, verification of your address, and documents proving your earnings like W-2 forms or tax returns.
This is when the hard inquiry into your credit will occur. Typically, these hard inquiries will only affect your score by a few points and it will usually rebound within a few months. After you get approved for your loan, you’ll see the funds usually in as little as seven days.
Is a Personal Loan Right For You?
Remember that taking out a personal loan a financial obligation you must repay. They shouldn’t be used as a quick-fix option that perpetuates your cycle of debt. It may be in your best interest to stay away from short-term loans like payday loans and cash advance loans because they are high-risk and require less responsibility from the borrower. Sometimes, you have to analyze your finances with a more objective mindset and realize that your income can’t keep up with your lifestyle.
However, in certain situations, they can be a good idea. Use personal loans as an option instead of the end all and be all of your financial woes.