Money can stir up so many feelings.
The decision of whether or not to take out a loan is often an emotional one. It’s easy to get swept up in the excitement of new opportunities. But before you sign on the dotted line, there are some things you need to know first.
What kind of loan do you want? How much can you afford each month? What kinds of rates and fees should you watch out for? These are just a few factors to keep in mind when selecting a personal loan.
Table of Contents
Read on to learn 8 factors to consider before taking out a loan.
1. Are You Borrowing or Investing?
One of the first questions to ask yourself is, “Will I be using this money as an investment opportunity or as a way to pay for something specific?”. Why does this factor matter? It’s all about selecting the right type of loan, while also determining if now’s the right time.
Right now, U.S. consumer debt is resting at $14.9 trillion. If you’re looking for a way to pay down your debt, this means you likely won’t get a return on your investment.
On the other hand, if you plan on using the money to start a business, buy a rental property, or go back to school, then it will be an investment. In other words, you can expect to get a financial reward from it.
Of course, there are many situations where the lines between these two types of loans become blurred. For example, getting a loan to renovate your condo might seem like an investment in real estate. But maybe you’re taking that money and putting it toward paying off high-interest credit card debt that’s been trapping you in its clutches for years?
The same principle applies no matter what type of loan you end up choosing. You’ll want to know how much your monthly payments will be, what the term is (how long you have before it’s paid off), and if there are any penalties for early repayment.
2. How Much Can You Afford?
Next, before selecting a personal loan, figure out how much you can afford to borrow. Many people aren’t aware of their monthly expenses vs steady income.
Uninformed about their financial situation, these people wind up borrowing more money than they can afford to repay. This often leaves them in a bad spot, with no way of paying back the loan without going into delinquency or defaulting entirely.
If you’re not sure how much you should borrow, you might want to consult a budget planner or financial adviser for help. Or check out websites where you can compare different loans like the Plenti Personal Loan. A lot of sites will have tools where you can see what your monthly payment would be depending on which loan you choose.
3. How Long Do You Have?
Next, how long do you plan on using the money for? Most personal loans come with a term, which is simply the amount of time before it needs to be repaid in full.
If it’s short-term, do some research to see what kind of penalties you will incur if you decide to pay off the loan early. If it’s long-term, determine what kind of rate you can get on an annual basis. Also, find out if the lender offers any “rate promotions” where you can lock in a lower rate for a certain amount of time.
4. What Is Your Credit Score?
Your credit score can have a big impact on the type of personal loan that works best for you. If it’s not good enough, banks and lenders will often offer high-interest rates or refuse your request entirely.
On the other hand, if you find yourself with an exceptional credit rating (the highest possible), then there are usually better options. If your goal is to improve your credit score, you mustn’t take out a personal loan and start charging more than you can pay back.
If you still want to give yourself some extra breathing room with however much money you need, an unsecured personal loan could be the perfect solution. As long as you make on-time payments, those positive marks should build up your credit history, thus increasing your score!
If you don’t know your credit score, now would be a good time to check. Once you know your number, look to see what credit category you fall into. When you know if you have excellent, good, fair, or poor credit, you can make wiser borrowing decisions.
5. Different Personal Loan Options
Moving on, you should also consider the different types of personal loan options. Here’s a shortlist of the most common types of loans
- Unsecured loan
- Secured loan
- Line of credit
- Credit card loans
- Small business loans
- Home loans
- Conventional loans
- Conforming loans
- Non conforming loans
An unsecured loan is just what it sounds like. You don’t have to put anything on the line or offer up any collateral to get approved.
A secured loan, on the other hand, typically requires you to give something of value as insurance against default. This might be a home, car, motorcycle, boat, jewelry, or even something else of equal value that can be sold if needed.
Credit card loans are somewhat unique too because while they’re generally considered installment loans (meaning they require fixed monthly payments). Most cards also carry revolving balances where you can pay down interest over time without closing the account entirely.
Small business loans are similar in size and scope when compared to personal loans They usually come with more flexible borrowing terms and better rates of approval.
Home loans are more of a long-term commitment, usually lasting 30 years or longer. It might also require that you purchase homeowners insurance as well.
6. Assets and Liabilities
What’s your current net worth? When you complete a personal loan application, lenders are going to look at your assets. Then they’re going to subtract your liabilities from the equations. The resulting number is your net worth.
Knowing your net worth ahead of time can make it easier to know what loans to go after. Assets are things like home value (if you own). There are also retirement and life insurance cash values. Although some lenders may consider these to be liabilities so it’s best to check with them first. Other examples of assets include things like stocks, bonds, mutual funds, and any money you have in a bank account.
In addition, certain assets can have a strong bearing on your borrowing capacity. In general, items such as new cars or boats will result in a lower loan-to-value ratio. Not only that, but they could also disqualify your application entirely if your lender doesn’t offer the types of loans you’re looking for.
Liabilities are just what they sound like—any outstanding debt that needs to be paid off. This includes mortgages, student loans, credit cards, and other forms of personal credit accounts. Lenders often calculate this by using your debt-to-income ratio.
7. Marriage and Finances
If you’re married, do your spouse’s liabilities count as your own? For instance, let’s say you recently married, and your spouse has credit card debt in their name. Will this liability affect your ability to get a personal loan in your name?
Depending on the lender, they may or may not consider your spouse’s debt when calculating your debt-to-income ratio. However, if this is something that will affect you negatively, you can always ask to have it removed from consideration.
8. Home Loans and Work History
Are you applying for a home loan or a mortgage? If yes, your work history is a major factor to consider. Specifically, it’s a factor lenders are going to scrutinize before approving or denying your loan.
For example, let’s say you’re applying for a home equity loan. You’ve just started a new job that pays well, but it’s only your first month of being employed there. Can the lender count your income as reliable?
Generally speaking, lenders have more confidence in borrowers who have worked at their current place of employment for an extended period. However, they typically don’t look at your work history in total. Instead, it’s the last 2-3 years that are most important when you apply for a home loan or mortgage
How many jobs have you worked in the past 2-3 years? This is where lenders will focus their attention. That said, if you’ve worked and/or lived in the same area for a long time, you may be able to back your income with local knowledge.
What about if you’re self-employed? The way that lenders evaluate self-employment is similar to how they assess unemployment. They’ll look at your business’s history and stability before making a decision.
Get Help With Selecting a Personal Loan
Congratulations! Now you’re closer to finding the perfect loan for your needs. As you can see, there are a lot of factors to consider when selecting a personal loan. This includes things like your credit score, income, and employment history.
Most importantly remember, before you agree to any type of loan, be certain of what you can afford to pay. If you’re still having trouble figuring out what loan’s right for you, then contact the lender in question, and ask them for help. Together, you can explore all of your lending options. Then have fun exploring the rest of our site!