Personal loan

Should higher personal loan rates scare you?

Image source: Getty Images

The quick answer? Not necessarily.

Key points

  • As the Federal Reserve raises interest rates, personal borrowing could become less affordable.
  • A personal loan could always be your most cost-effective option from your array of choices.
  • If you own your home and have built up equity, a HELOC might be a better choice for you.

There’s a reason personal loans are often hailed as a solid borrowing choice when cash is needed. Not only do personal loans allow you to borrow for any purpose, but you can usually get your money fast when signing up for a personal loan. Other loans could take weeks to complete.

Personal loans are also often touted as an affordable borrowing option. But now that interest rates are on the rise, these loans could become more expensive. Does that mean you should stay away? Or is a personal loan still a solid bet?

Personal Loans Could Still Pay Now

The Federal Reserve is aggressively raising interest rates in an effort to slow the pace of inflation. Now, the Fed doesn’t specifically set personal loan rates. Technically, it does not directly control consumer borrowing rates at all.

Rather, the Fed is responsible for setting the federal funds rate, which is what banks charge each other for short-term borrowing. But when it gets more expensive, banks tend to pass those costs on to consumers. As such, it’s fair to say that what the Fed is doing is indirectly increasing consumer borrowing rates via its policies.

Going back to personal loans in particular, it is fair to assume that they will become more expensive in the coming months as interest rates rise across the board. But does that mean they’re a bad borrowing choice? No way.

In the context of borrowing products, a personal loan may be the most affordable option to choose from. And you might incur a lot less interest on a personal loan than by carrying over a credit card balance. So you shouldn’t write off a short-term personal loan for charging more interest than before, because that’s really just part of a general trend.

There may be an even more affordable way to borrow

Although personal loans are known for their competitive interest rates, if you own a home, a home equity loan might be an even more attractive borrowing option because you might get a lower rate. This is especially true if your credit score is not so good.

With a home equity loan, the amount you borrow is secured by the equity in your home. This might reassure your lender enough that they might be willing to overlook a fair credit rating and still offer a competitive borrowing rate. Personal loans, on the other hand, are unsecured, meaning they are not tied to a specific asset as collateral. So if your credit score needs improvement, you could end up with a higher borrowing rate on a personal loan.

All in all, the rise in personal loan rates should not necessarily scare you away, because unfortunately, borrowing is becoming more expensive overall. Granted, it’s always a good idea to keep your debt to a minimum, so that’s a good reason to avoid a personal loan. But if you have a definite need to borrow money, it is always beneficial to consider a personal loan for this purpose.

The Ascent’s Best Personal Loans for 2022

Our team of independent experts have pored over the fine print to find the select personal loans that offer competitive rates and low fees. Start by reviewing The Ascent’s best personal loans for 2022.