How Do Personal Loans Work?
A personal loan is a lump sum of money that can be used to cover most types of expenses.
If you’re looking for a way to pay for an unexpected bill or consolidate your debt, a personal loan can be a good solution since these loans may have lower interest rates than credit cards. However, you may struggle to qualify for a personal loan if you have bad credit.
- You can use a personal loan to borrow money for almost any expense.
- You’ll pay back the amount you borrowed, plus interest and fees.
- These loans have fixed interest rates, so you make equal monthly payments until your loan is paid off.
- Getting a personal loan requires a hard credit inquiry, which typically deducts less than five points off your credit score temporarily.
What is a personal loan?
Taking out a personal loan is a common way to borrow money. You’ll repay the loan amount — plus interest and fees — in equal monthly payments over a set period of time. You can use a personal loan for almost any type of expense, and you typically get the funds within one to five business days.
You can typically borrow anywhere from $1,000 to $100,000 with a personal loan, depending on the lender and your credit score.
If you have bad credit, you may not qualify for the full loan amount you want. But you can improve your odds of getting approved for a larger loan by taking some time to improve your credit score or by adding a cosigner or co-borrower to your loan application.
You’ll pay interest and fees to take out a loan. These costs of borrowing are expressed as an annual percentage rate (APR), which is the annual cost of borrowing, including interest rates and fees. As of the most recent data, the average APR for LendingTree users is 23.34%.
The higher your credit score, the lower APRs you’ll likely qualify for and the less expensive your loan will likely be in the long run. You can also reduce your cost of borrowing by paying off your loan early, as long as there’s not a pre-payment penalty on the loan.
Learn more about upfront personal loan fees.
Loans come with set repayment periods (or loan terms), typically between one and five years. Long-term loans come with smaller monthly payments because you spread out your payments over a longer period of time, but taking longer to repay your loan can mean paying more interest.
For example, if you have a $15,000 loan with a 12% APR and five-year repayment, you’ll pay $5,020 in interest. However, if you pay off the same loan in three years, you’ll pay just $2,936 in interest.
Common reasons to get a loan include consolidating debt, paying off credit cards and emergency expenses. You can use a personal loan for almost anything, but lenders typically don’t allow you to use the money for your business or secondary education (college or graduate school).
For business or education expenses, consider getting a small business loan or student loan.
Using personal loans to cover everyday expenses is becoming more and more popular among Americans. Paying for everyday bills is the fourth most popular reason to get a personal loan on the LendingTree platform. This number more than doubled from our 2023 findings – 3.4% of users (2023) to 8.2%.
How to qualify for a personal loan
Each lender has its own personal loan requirements but typically considers the following criteria:
- Credit score: Each of your credit scores is a three-digit number that measures how likely you are to repay your debt.
- Credit reports: When lenders pull your credit reports, they’ll be able to see your credit history. This includes the status of your current loan and credit card accounts, any late or missed payments on debt and any bankruptcies or accounts in collections.
- Debt and income: Lenders often calculate your debt-to-income ratio to determine if you can afford to take on new debt.
Beware of any lender that guarantees approval before you apply. This is a common sign of a personal loan scam.
You can get offers from up to five lenders in just a few minutes when you fill out a single form with LendingTree. The average LendingTree user saves $1,659 by shopping around on our platform.
Is a personal loan right for you?
In some circumstances, a personal loan can be the best way to meet a financial need. For instance, if the loan allows you to manage your pre-existing debt by reducing your monthly payments or your interest rate, it can be a good idea.
A personal loan can also be a good choice if you don’t have cash to pay for an emergency expense. That’s because the interest rate may be lower on a personal loan than on a credit card or payday loan.
However, taking on new debt isn’t the ideal way to cover an expense. When you take out a personal loan, you’ll have a new monthly debt payment, and you’ll have to pay interest and fees to the lender. If you miss a payment, your credit score can take a big hit.
A personal loan may be a good fit if…
- It allows you to consolidate high-interest debt.
- You don’t have savings to cover an emergency expense.
- It makes your total monthly debt payments lower.
A personal loan may not be a good fit if…
- You only qualify for high interest rates.
- You’re not sure if the payments are affordable.
- You can cover your expenses without borrowing money.
What is the interest rate on a personal loan?
Personal loans from reputable lenders run anywhere from 6% to 36% APR, as of publication.
Most personal loan interest rates are fixed, meaning they stay the same for the full term of the loan. However, the amount of your payment that goes toward principal (the amount you borrowed) and interest will change each month.
Most lenders advertise their lowest interest rates for loans, though they reserve their lowest rates for borrowers with excellent credit. Borrowers with bad credit will be offered high interest rates, if they qualify for any loans at all.
Where can I get a personal loan?
The best places to get a personal loan are credit unions, banks and reputable online lenders. You can apply for a loan directly on the lender’s website or use a marketplace like LendingTree to compare rates from multiple lenders.
Comparing six or more loan offers could help you save up to $3,138, as long as you have good or fair credit, so it’s worth your time to shop around. You can do this quickly by using a lending marketplace, or you can check your rates by prequalifying on each lender’s website.
Not all lenders are created equal. Watch out for payday loans with triple-digit APRs. This is one form of predatory lending that can land you in a cycle of debt.
Personal loan alternatives
If you don’t have any money saved, a personal loan is one of the best ways to cover an unexpected expense or to consolidate debt. However, you might consider other financing options if you don’t qualify for a personal loan.
- Balance-transfer credit card: Balance transfer credit cards usually give you an introductory period of 0% interest on the debt you transfer to the card. However, these cards have complicated terms, including 3% to 5% balance transfer fees and APRs that can jump to nearly 29% after the introductory period ends.
- Home equity loan: Home equity loans let you turn some of your home equity into a loan. These loans can be easier to qualify for than personal loans, since they’re backed by your home as collateral. However, if you miss payments, you could face foreclosure.
- Home equity line of credit (HELOC): Similar to a credit card, a HELOC allows you to borrow, repay and borrow again during draw periods. But with HELOCs, the money you spend is equity you’re borrowing from your home. As with home equity loans, failure to make HELOC payments can lead to foreclosure.
- Buy now, pay later (BNPL) loan: BNPL loans allow you to split up a purchase into multiple payments. You don’t usually need good credit to qualify for BNPLs, but these loans may encourage consumers to make purchases they can’t afford. Nearly half of all BNPL borrowers (47%) report having missed a payment on their loan in the past year.
Frequently asked questions
Yes, you can refinance a personal loan. When you refinance, you take out a new loan to pay off your current loan. People typically refinance to get lower rates or lower monthly payments.
An unsecured personal loan is a loan that is not backed by collateral, such as a car or house. Interest rates for unsecured loans tend to be higher than for secured loans, making them more expensive to pay back. That said, you risk losing your collateral if you stop making payments on a secured loan.
You can pay off personal loans early, and doing so can be a great way to save money on interest. However, beware that some lenders charge prepayment penalties for their loans, though most don’t.
You may be able to qualify for a personal loan with a credit score as low as 580. However, the higher your scores are, the more likely you are to be approved for loans and to be offered low interest rates.
Some lenders can transfer your personal loan funds to you the same day you apply, but others can take up to five business days after approving your loan application.
If you don’t pay back a personal loan, you can face late fees and damage to your credit score. For each payment that’s 30 days late, your credit reports will show a missed payment, and that negative mark will stay on your credit reports for seven years.
If you miss several payments in a row, your loan may be sent to collections, which will cause additional damage to your credit and can put you at risk of a lawsuit.
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