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What is a Personal Loan and What to Know About Them
Personal loans have become a fundamental part of financial planning, offering people the flexibility to manage expenses and consolidate debt.
What is a personal loan? And what do you need to know about them? Let’s look at the essentials of borrowing money and how these loans can help you achieve financial stability.
A personal loan is a specific amount of money that's borrowed for a defined period of time, usually with a fixed interest rate and stable monthly payments. Banks and other financial institutions lend the money based on the borrower's creditworthiness, which includes credit history and financial stability.
A personal loan can be used for just about anything, which gives the borrower great flexibility.
How to apply for a personal loan
Personal loans follow a structured approval process, where factors such as credit score, income verification, debt-to-income ratio, employment history and savings are evaluated to determine creditworthiness.
Here's a broad overview of the process for getting a personal loan.
Loan application
You can apply for a personal online. Before you start the loan application, gather information like annual income, income from other sources, bank accounts, employment history, Government ID and regular expenses like rent or mortgage payments. You might also need pay stubs or tax records.
Loan approval process
Once you check your rate, the lender reviews your financial profile and credit score. They check your income, debt-to-income ratio, employment history and savings. Some lenders do a soft credit check, which does not affect your credit score. However, many lenders will do a hard credit check once you complete your application, which signals to the credit bureaus that you are applying for a loan. This could cause a slight drop in your credit score. The better your creditworthiness, the more favorable the loan terms are likely to be.
Loan terms
Upon approval, you'll receive specific loan terms. These include the loan amount you're approved for, the duration of the loan (also called loan term), the interest rate, any applicable fees, and the total monthly payment required. The interest rate is a key factor in determining the cost of borrowing money. Be sure to look over your repayment schedule and all the terms. Double-check the rates, loan length and any penalties or fees.
Loan acceptance
If you're approved and you accept the loan offer, funds may be available and deposited in as little as one business day. It could take longer. Some lenders might even want to mail a check for the loan amount.
What can you use a personal loan for?
One of the key advantages of personal loans is their versatility in addressing financial needs. Here are some examples of how you can use personal loans:
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Consolidating debt. You can use a personal loan to consolidate high-interest debts from credit cards or other loans into a single, more manageable payment. This can save you money on interest and give you stable monthly payments, making debt management much easier
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Home renovations. Whether you're remodeling or making essential repairs, a personal loan can provide the necessary funds to improve your living space
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Buying a car. Personal loans can finance vehicle purchases, offering competitive rates and flexible terms compared to traditional auto loans
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Wedding expenses. From venue bookings to catering and attire, a personal loan can spread out the costs of your dream wedding
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Vacation planning. Enjoy your vacation without depleting your savings. You could, for example, use a personal loan to cover one aspect of the vacation, like the hotel bill
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Medical expenses. The cost of planned medical procedures and unexpected medical bills can be managed with a personal loan
Types of personal loans
There are two primary types of personal loans. Let’s go over the details of both.
Unsecured personal loans
Unsecured personal loans do not require collateral and are solely based on the borrower's credit report or history, income and financial stability. Because there is no collateral involved, these loans pose a higher risk to lenders. As a result, an unsecured loan typically has higher interest rates compared to a secured loan. Borrowers with strong credit scores and stable incomes are more likely to qualify for unsecured personal loans and get better terms.
Secured personal loans
Secured personal loans require collateral, which serves as a form of security for the lender in case the borrower defaults on the loan. The collateral could be a valuable asset such as a car, property or savings account. By providing collateral, borrowers reduce the risk for lenders, which often leads to lower interest rates and more favorable loan terms. However, if the borrower fails to repay the loan, the lender has the right to seize the collateral to recover the outstanding debt.