Personal loans can provide an affordable alternative to credit cards, allowing you to finance significant purchases while potentially saving on interest. In the U.S., millions of borrowers collectively owe hundreds of billions in personal loans, highlighting their growing popularity. If you’re considering taking out a personal loan, it’s essential to have a clear repayment plan. Here are 10 crucial questions to address before taking out a personal loan.
Read: Is a Personal Loan Right for You? Here’s When to Consider It
1. How Much Money Do I Need?
Personal loans typically start at around $500, but most lenders have minimums between $1,000 and $2,000. For amounts under $500, consider saving, using a credit card, or borrowing from friends or family. For example, PenFed, a federal credit union, offers personal loans ranging from $600 to $50,000.
2. Do I Want the Money Sent to My Bank Account?
When taking out a personal loan, the funds are usually deposited directly into your checking account. However, if you’re consolidating debt, some lenders can send the funds directly to your creditors. Choose to have the funds sent to your account if you prefer managing the money yourself or if you’re using it for purposes other than debt consolidation.
3. How Long Will I Have to Pay It Back?
Repayment terms for personal loans typically range from six months to seven years. Your interest rate and monthly payments will depend on the length of the loan. Generally, shorter terms come with lower interest rates but higher monthly payments.
4. How Much Interest Will I Pay?
Interest rates for personal loans vary based on factors like loan amount, credit score, and loan term. Rates can range from 5.99% to over 29.99%. Typically, you’ll secure a lower rate if you have a good credit score and choose a shorter repayment term. The Federal Reserve’s latest data indicates the average APR for 24-month personal loans is 12.17%, often lower than average credit card APRs, making loans a popular option for refinancing credit card debt.
5. Can I Afford the Monthly Payments?
Choose a repayment plan that aligns with your income and cash flow. Some lenders offer incentives like lower APRs for using autopay. While spreading out payments over a longer period can lower your monthly payment, it generally increases the total interest paid. Aim to keep your total debt payments, including mortgages and personal loans, within 35% to 43% of your monthly income.
6. Does the Personal Loan Have Fees?
Most lenders only charge interest, but some may also impose origination fees, which are deducted from the loan amount to cover processing costs. These fees typically range from 1% to 5% of the loan. For instance, a 5% origination fee on a $10,000 loan would leave you with $9,500, as $500 goes to the lender.
7. Do I Have a Good Enough Credit Score?
Knowing your credit score before applying is crucial. Most online lenders require a good credit score (690 or above), but some may approve you with a lower score if you have a strong history of timely payments. Credit unions often offer lower interest rates and work with borrowers who have average credit scores, but you may need to become a member first.
8. What Other Options Do I Have?
For debt repayment, consider a balance transfer credit card with a 0% introductory APR as an alternative to a personal loan. These cards can save you significant interest costs over time, especially if you can repay the balance during the promotional period.
9. How Soon Do I Need the Money?
Lenders can take up to 10 business days to disburse funds. If you need quick access, ensure the lender’s timeline meets your needs.
10. How Will a Personal Loan Affect My Credit Score?
Personal loans are installment credit, which can diversify your credit mix and strengthen your credit profile. Using a loan to pay off revolving debt (like credit cards) can improve your credit score, especially if you maintain low balances on your cards afterward.
Personal loans can be an essential financial resource when managed responsibly. By thoroughly considering key factors, you can make well-informed choices that align with your financial goals when taking out a personal loan. Start by conducting a soft inquiry on a lender’s website or via a lending marketplace to review your options without affecting your credit score. Only move forward with a hard inquiry once you’ve prequalified and are confident in the terms offered.