What Is A Personal Loan?
Victoria Araj6-Minute Read
UPDATED: July 26, 2023
Sometimes having a little extra cash can make a world of difference, whether it be for an emergency expense, making a large purchase or managing your debt. A personal loan can supply those extra funds and more, but first you should know what you’d be getting into.
This article will provide all the information on personal loans you need in order to decide whether it’s the right choice for you.
Personal Loan Definition
A personal loan is a type of credit that you can use for making big purchases, consolidating high-interest debt or for a variety of other reasons. It works as an installment loan, where you borrow a specified sum of money from a traditional bank, credit union or online lender and pay it back within a predetermined amount of time.
Your interest rate will vary depending on your creditworthiness – the higher your credit score, the lower your rate will be, meaning you will pay less over the life of the loan.
What Can You Use A Personal Loan For?
Here are some of the most popular ways people tend to use personal loans:
Make Home Renovations And/Or Repairs
If you have small repairs or home improvements you want to make, a personal loan can be a great way to cover the costs.
Paying Down Medical Bills
If you can't negotiate high medical bills for lower terms, a medical expense personal loan allows you to pay them off so they don't damage your credit. You'd then pay the personal loan back in installments.
If you have multiple loans with high interest, you can combine them into one personal loan as a method of debt consolidation, to help make payments more manageable and possibly achieve a lower interest rate. Debt consolidation can include student loans, credit card debt or tax debt.
Financing A Vehicle
A personal loan can substitute for an auto loan if you can’t afford a down payment or don’t want your vehicle to be used as collateral. You should weigh your options carefully before using a personal loan for this type of purchase, though.
Funding Your Small Business
Whether you're expanding your operation or need to take on extra marketing expenses, a personal loan can help finance your budding business.
Planning A Wedding Or Vacation
Even if you're planning a modest wedding or to travel on a budget, the costs can add up, and a personal loan can often help cover these expenses more affordably than using a credit card.
How Do Personal Loans Work?
Let's do a quick overview of the personal loan process.
The personal loan process typically begins with you looking for the best offers available.
When you decide you need a personal loan, you should start shopping online to see your options. It'll help if you know exactly what you're looking for and how much you need in order to narrow down the various products available.
When evaluating loan offers, you'll want to compare the annual percentage rate (APR) on each one. The APR takes all fees and charges into account so you can compare loan offers and choose the best one.
Lenders are required to disclose the APR on all consumer loans.
To see if you qualify for a loan, first check your credit, as that can be an important decision-making factor for the lender. To apply for a personal loan, you'll need to submit your financial information to lenders. The lenders will look at the following:
- Your credit score
- Your income
- Your debt-to-income (DTI) ratio
- Your employment history
- Your savings
Once you choose a lender, you'll supply more detailed information, and your lender will consider your eligibility. Within days, you'll receive your approval, if all goes well, along with all the repayment terms. If you have little or no credit history, lenders may require you to have a co-signer on the loan.
Once you are approved, you will receive a promissory note that defines the loan terms and conditions. Make sure you read this document carefully, as it lays out all the agreements between you and your lender. It will tell you, among other things, when payments need to be made, the applicable interest rate, and whether there are late payment penalties.
It will also tell you how long it will take you to repay the loan and will specify when and to whom payments will be made. Once it's signed, it’s a contract that governs the relationship between you and your lender.
Before you sign on the dotted line, make sure you understand all the terms of the loan:
- How much the interest rate is: While usually the interest rate is lower than other types of loans, they can still be high, especially if you don't have a great credit score.
- Whether there's an origination fee: An origination fee is what some lenders charge to process the loan. This is typically a percentage of the loan amount and may be rolled into your monthly payments or paid upfront.
- How long the loan term is: The longer the loan term, the more interest you'll be paying. You can pay off your loan early, but some lenders charge a prepayment penalty, which is a fee for making early payments.
- Your total monthly payment: Make sure you can commit to paying this amount on time each month for the life of the loan, otherwise you could be looking at late fees and potential negative marks on your credit report if you fall seriously behind.
Once approved, you should receive the loan proceeds within 1 – 7 business days. Afterward, you will simply make payments until the loan is fully repaid. When you complete your repayment, the promissory note you signed will be returned to you and you will no longer be obligated on the loan.
Rocket Loans℠ offers same-day financing with its personal loans, so you could potentially receive your money the same day you’re approved.*
Types Of Personal Loans
There are different types of personal loans to suit your needs and financial situation. The two most common personal loans are secured and unsecured.
A secured loan is backed by some type of collateral, such as your vehicle or a savings account. If you don't make your payments, the lender has the right to take that asset to pay off the personal loan. Secured loans tend to carry lower interest rates because lenders have that asset to tap should you default.
By contrast, an unsecured personal loan isn't backed by collateral, which means that a lender will decide whether you qualify based on factors like your credit history and income. If you have bad credit, an unsecured personal loan can be harder to get, because lenders won't be as confident you'll pay it back.
FAQs About Personal Loans
How can a personal affect your credit score?
A personal loan can affect your credit in a number of ways. Most immediately, applying for a personal loan involves a hard inquiry, which causes a small dip in your score. Making late payments or defaulting can also damage your score.
Having a personal loan can also give your credit a boost by diversifying your credit mix and lowering your credit utilization. Making on-time monthly payments, too, can raise your score over time.
If you want to see what rates and terms you could qualify for, some lenders allow you to prequalify for a personal loan with a soft credit check, which won’t affect your credit score.
What is the typical interest rate on a personal loan?
Current personal loan rates hover between 6% – 36%, but your interest rate can depend primarily on your credit score and DTI.
If you choose a fixed-rate loan, you lock in at an interest rate and then your payments are equal over the term of the loan. If you choose a variable rate, you may pay a lower interest rate initially, but you are taking the risk that interest rates will rise and your monthly payments will go up, although you could also benefit from lower monthly payments should interest rates fall.
How much can you borrow with a personal loan?
Your financial situation can affect how much you can get with a personal loan, but typically borrowers are approved for $1,000 – $50,000, and in rare instances up to $100,000.
Rocket Loans can offer borrowers $2,000 – $45,000 for personal loans.
A personal loan can be a great choice for those who need money for things like debt consolidation or home repairs. However, you should always think carefully before assuming new debt.
If a personal loan sounds right for you, apply online today with Rocket Loans.
*Same day funding is available for clients completing the loan process and signing the Promissory Note by 1:00 p.m. ET on a business day. Also note, the ACH credit will be submitted to your bank the same business day. This may result in same day funding, but results may vary, and your bank may have rules that limit our ability to credit your account. We are not responsible for delays that may occur due to an incorrect routing number, an incorrect account number or errors of your financial institution.
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