Get a personal loan? Prepare to be surprised – and not in a good way.
- Personal loans allow you to borrow money for any purpose.
- Although they may be an affordable loan option, you might pay more for several reasons.
When you need money and don’t have it in your savings account, a personal loan might seem like a good borrowing option. A personal loan allows you to borrow money for any reason. You can take out a personal loan to renovate your home, start a business, or pay off existing credit card debt.
The advantage of personal loans, aside from the flexibility to use your loan proceeds as you see fit, is that they tend to come with competitive interest rates. In fact, you’ll usually pay many less interest on a personal loan than on a credit card. But here’s why your personal loan could end up costing more than expected.
1. Your credit score isn’t great
It’s possible to get a personal loan even if you don’t have the best credit in town. But you should know that the lower your credit score, the higher the interest rate you are likely to face on your loan. Indeed, a lower credit score sends the message to lenders that you are a riskier borrower.
Unlike mortgages and auto loans, which are secured by specific assets (homes and vehicles, respectively), personal loans are unsecured. This means that they are not tied to any asset that your lender can access if you are behind on your loan payments. When it comes to qualifying for a personal loan and locking in an interest rate on it, your credit score carries a lot of weight.
2. You pay a lot of fees
You may be familiar with the closing costs of a mortgage loan. Personal loans work the same way in that you will usually have to pay a series of fees to set up this loan. If these fees are high enough, your loan will cost more than expected. This is why it is important to find out about these fees from the start, before signing a loan agreement.
It’s also a good idea to shop around with different lenders before committing to a personal loan. When making these comparisons, don’t just look at the interest rate on your loan, but also the fees you’ll pay to finalize it. This way you can lock in the best deal.
3. You are forced to borrow more to meet a lender’s minimum borrowing requirement
It takes a lot of administrative work to set up a personal loan. Lenders tend to set borrowing minimums to ensure the work is worthwhile. But if your borrowing needs are below local lenders’ minimums, you may need to borrow more money just to qualify for a personal loan.
Let’s say you need a loan of $3,000, but lenders in your area usually have a minimum personal loan of $5,000. This means you may need to take out a larger and more expensive loan to access the money you need.
Borrowing money with a personal loan could be a quick and convenient solution for you. Just be aware of why your loan might cost more and research different borrowing options to ensure you get a decent deal.
The Ascent’s Best Personal Loans for 2022
The Ascent team has scoured the market to bring you a shortlist of the best personal loan providers. Whether you’re looking to pay off debt faster by lowering your interest rate or need extra money to make a big purchase, these top picks can help you reach your financial goals. Click here for the full rundown of The Ascent’s top picks.