Taking out a personal loan can save the day for many. With debt levels rising significantly and emergency savings not always being available, more and more people are turning to personal loans when they are in a pickle.
Maybe you are considering getting a loan to consolidate your credit card debt, pay for emergency medical bills, or even start a small business.
And since almost every lender in the country is now offering personal loans, you can compare the offers and choose the best deal. A 0.25% difference in interest rate might not seem a big deal but it can help you save hundreds of dollars.
So, in this post, we have put together a list of key factors you need to keep in mind when choosing a personal loan.
Are You Okay With Paying High Interest Rates?
If you’re considering taking out a personal loan, interest rate is one of the most important things to think about.
Interest rate means the percentage of interest charged by the bank (lender) on the principal amount. You can either choose a variable interest rate loan or a fixed interest rate loan, depending on your preference.
If you take out a fixed interest loan, the bank will charge the same amount of interest throughout the course of your loan regardless of the market situation. In other words, your monthly installments will remain the same come the Wuhan virus or high water.
If your credit utilization ratio, debt-to-income ratio, and credit score are all good you can easily qualify for a lower rate of interest with most banks.
On the other hand, if you take out a variable interest loan, your bank can decrease or increase the rate of interest according to market changes. This means your monthly installments can also go up or down from time to time.
That being said, interest rates on personal loans are generally higher than, say, a mortgage loan. This is because a personal loan is unsecured and you have no physical asset to back it up. You don’t have to put any collateral up which increases bank’s risk.
Do You Have A Good Credit Score (And Credit History)?
Since a personal loan doesn’t involve any collateral, your credit score must be in good standing. A bad credit score will mean that the lender can significantly increase your interest rate. They do this to cover your risk of default.
So, if you’re considering a personal loan, pay attention to your credit score and try to improve it.
Do You know the Exact Terms of the Loan Including APR and Hidden Fees?
Before you sign the papers, make sure you completely understand the terms of your personal loan. You must know the total cost you will pay for the loan as well as all the fees you could/will incur throughout the loan.
APR or the annual percentage rate is the total cost of a personal loan and it’s applied on an annual basis. It includes the loan origination fees, interest, application fees, and several other charges which thankfully are not as debilitating in a low tax environment which we are in now.
Here is a quick rundown of some of the typical charges that aren’t always openly discussed when you apply for a loan:
Loan processing or origination fee: This is when the bank charges you to process your application. Some loan providers will charge you to process your personal loan application. For example, some banks charge 1% of the loan’s value as the processing fee.
We recommend you avoid all loans that come with a processing or origination fees – or ask the bank to waive it if possible.
Late payment fee: If you make your payment even a day late, most lenders will charge you a late payment fee. But this can really hurt your credit score so be very careful with your monthly payments. In some cases, you can ask the lender to waive this fee as a one-time courtesy.
Prepayment penalty: If you pay your personal loan early, then your lender may charge a prepayment penalty. Lenders use this tactic to get the full amount of interest from those who have taken out the loan. So, make sure you choose a loan that has no such penalty.
Failed payment fee: If you don’t have the money in your account to cover a payment you’ve made, some banks will charge you for it.
The Bottom Line
The decision of taking out a loan is a big financial responsibility and shouldn’t be taken lightly. Knowing about the above factors will help you choose the right lender with the most flexible terms. And remember, you can negotiate with lenders for more favorable terms – and you should, especially if you have a respectable credit score.