A personal loan is a form of credit that borrowers can use for any purpose, such as consolidating debt, refinancing and making big purchases. Personal loans usually are not backed by collateral, so they are often for lower amounts and have higher APRs than other types of installment loans. Personal loans also have relatively short repayment terms, with most requiring full payment in 12 to 60 equal monthly installments.
How Do Personal Loans Work?
Personal loans let you borrow a specific amount of money from a lender and then pay it back in monthly installments over a set term. Those monthly payments include equal portions of the original loan amount, plus interest and fees. With on-time payments, your credit score should improve.
How Personal Loans Work
- The lender reviews your application. The lender will consider your application based on your personal and financial information.
- You’ll receive funds after approval. The lender will send you a bank transfer or a paper check with your funds.
- The loan will accrue interest charges. Your loan will immediately begin to accrue interest at a rate set by the lender.
- You’ll make monthly payments. You’ll have to pay the lender a required amount each month.
- The loan payments will affect your credit. The lender reports to credit bureaus whether you’ve paid on time each month. If you pay on time, your credit score will improve from the positive information reported by the lender. If you don’t pay on time, the lender will report negative information, which will hurt your credit score.
Learn more about how personal loans work.
What Can a Personal Loan Be Used For?
A personal loan can be used for nearly anything you want. Some common reasons to apply for a personal loan include home projects, debt consolidation and emergency expenses. You could also use your funds for things that are less essential, like vacations or wedding expenses. More than one-third of people think travel is a debt-worthy expense, according to a WalletHub survey.
What a Personal Loan Can Be Used For
- Home improvement
- Debt consolidation
- Emergency expenses
- Credit improvement
- Medical expenses
- Rent payments
- Starting a small business
Learn more about what a personal loan can be used for.
Who Can Get a Personal Loan?
Whether or not you’re able to get approved for a personal loan will depend on your credit history, income and existing debt, along with other factors that may vary by lender. Most unsecured personal loans will require a credit score of at least 600, and those that don’t have an origination fee usually require a score of at least 660. But there are also secured personal loans, which require collateral, that are available even to people with bad credit.
You can get a personal loan if you are at least 18 years old and a U.S. resident with a Social Security number or Individual Taxpayer Identification Number (some lenders accept an immigration visa/passport as well). You also need enough income to afford monthly loan payments.
Individual lenders have their own requirements, too. For example, most personal loan providers will require a credit score between 580 and 700 at a minimum. You can check your latest credit score for free on WalletHub, as well as try out WalletHub’s free pre-qualification tool to see your approval odds with multiple lenders at once.
Learn more about personal loan requirements.
Types of Personal Loans
Unsecured Personal Loans
Approval is based on your creditworthiness – that is, a combination of your credit score, income, expenses, existing debt, recent credit inquiries and more. Unsecured personal loans are available to people of all credit levels. However, you will need a high credit score to get the best terms possible.
Secured Personal Loans
These loans require you to put down something of value as collateral (such as an auto title, money in a bank account or stocks). The lender can keep the collateral if you default. Because there’s less risk for the lender, it’s easier to get a secured loan with a low credit score.
The interest rate stays the same for the life of the loan.
The APR is connected to an index rate, which can rise or fall as the market changes.
Both unsecured loans and secured loans can have either a fixed or variable interest rate. Fixed rates are most common. Learn more about the different types of personal loans.
Personal Loans vs. Other Borrowing Options
|Borrowing Option||How It Works||Main Advantage||Main Disadvantage|
|Personal loan||Receive a lump sum and pay it off over time||Potential for low interest rates||Credit score of 600-660+ usually needed|
|Credit card||Draw from a credit line indefinitely and make monthly payments||Borrow whenever you need to and carry a balance between months||Potential for a low credit limit and a high APR|
|Home equity loan||Get a lump sum secured by the equity in your home||Potential for very high loan amounts||Could lose your home if you default|
|Home equity line of credit (HELOC)||Draw from a credit line secured by the equity in your home||Potential to borrow very high amounts||Could lose your home if you default|
|Payday loan||Borrow against your next paycheck||None (not worth it)||Extremely high fees (often equivalent to 400% APR)|
|Auto title loan||Borrow money for 15 - 30 days secured by your car||None (not worth it)||Extremely high interest (as much as 25% of what you borrow)|
|Pawnshop loan||Borrow part of an item’s value and repay it by a certain date to reclaim the item||Fast cash – not as risky if you don’t care about the item||Very high interest and the shop can sell your items if you don’t pay|
|Loan from family/friends||Borrow from the individual and pay them back over time||Could get low interest and lenient payback terms||Could ruin your relationship|
To summarize, the first major alternative to a personal loan is a credit card. A credit card allows you to borrow up to a certain amount of money anytime you want. Some credit cards even have a 0% APR introductory period.
Another borrowing option is a home equity loan. These loans let you borrow against the “equity” of your home, which is the market value minus the balance on the mortgage. There are also home equity lines of credit, which let you borrow up to a certain amount whenever you want to for a given time period.
Those are the most reliable alternatives to a personal loan. There are other options, like payday loans, auto title loans and pawn shop loans, but they are too expensive to consider except as a last resort. You can also potentially borrow from friends and family, but that comes with its own issues, like causing relationship problems if you can’t repay.