Types of Loans
There are different variations of consumer personal loans, signature loans and lines of credit. Each loan product may have different features and pay off requirements. The loan rates maybe fixed or variable and loans terms may vary. The personal unsecured loan maybe a useful tool for Debt Consolidation, large purchase, home improvements, car repairs etc.
Personal Loans are funded by your local bank or financial institution, these loans do not require collateral. Your consumer credit history, income and your ability to repay the loan will be the primary factors to be approved for a personal loan.
Your Credit Score
Your Credit Score will be the number one factor that determines if your loan is approved and what your interest will be.
Debt To Income Ratio
You will be asked to give your income on the loan application. They may ask for your weekly, monthly or annual income. To calculate your annual income from your weekly income please see the chart below.
Be sure you include all sources of income. If you work a weekend job or get child support or alimony be sure to list those amounts. Sometimes people have additional income from renting a room, or roommate, monthly or annual bonuses or seasonal work. Please be sure to include any and all income sources you may have.
Fixed Monthly Expenses
You will also be asked for your “fixed” monthly expenses. Please be careful to detail your expenses accurately. If you just list ballpark expense amounts they may not be accurate enough to show your ability to repay the new loan. They may not reflect the “actual” amount that you pay monthly. Be aware that any accounts listed on your Credit Report will be compared to your “Fixed Expenses”.
For example if your credit report shows your car payment at $467 per month and you list it low or high such as approx $450 or approx $475. This may set the tone that you are not being truthful about your expenses and may keep you from being funded. So be accurate and complete while listing your expenses.
Detailing your expenses allows your financial institution do a comparison of your expenses vs your income. What the banking industry calls “Debt to Income Ratio”. The Bank will compare your total income divided by your total expenses to determine your debt to income ratio. Of course ratios greater than 100% would not be good because that would show your lender that you have more monthly expenses than income and that you have no money left over at the end of the month to make loan payments. Ratios between 35%-65% would show ability to repay a new loan in most circumstances. If you are using the loan for Debt Consolidation a lender may be more lenient and allow a higher debt to income ratio. Of course the more disposable income you have the more money you have available for repayment. That is always a good thing. Unsecured Personal Loans or Consumer Loans are Credit Score driven. Be sure you have your score in the best shape possible.
Improving Debt To Income Ratio
There are many ways you can affect your Debt to income ratio. If you can increase your income prior to application that would improve your ratio. You could get another part time job, rent a room or work more hours at your present job if that’s an option.
- Get another part time job.
- Rent out a room.
- Work more hours at your present job.
If your saddled with a lot of credit card debt you could work on getting them paid down reducing your monthly “fixed expenses” thus reducing your debt to income ratio. If the personal loan your considering is to reduce your credit card debt the balances may be affecting your credit score. The minimum monthly credit card payment requirements may keep you from being funded. You may have to look at other options for reducing that credit card debt.
Reduce Your Monthly Expenses By Lowering Utility Costs
Affecting your basic household expenses is a good way to reduce your “over-all” debt to income ratio. Utility costs can be reduced easily and will affect your ratios quickly. To Reduce Electric usage, (especially in hot climates) raise your thermostat when you’re not at home, turn off all fans when no one is in the room. Use lighting only when needed and keep pool pump usage to the minimum required time. Make sure your appliances are in good working order as so not to run more often than needed. Use weather stripping on all doors and windows keeping heating and cooling costs down.
Cable and satellite TV is getting very expensive. Cut back costs by going to basic channels only. Don’t buy premium channels like HBO and Showtime every month when you only buy it to watch one weekly shows. That show’s season will likely be on sale at a discount video store at the end of the season for $15-$20 and you can watch the whole season at your pace not having to wait week by week to see what happens next. There is also a lot of free TV on the internet. Maybe you can get rid of cable and satellite all together and get your TV completely free.
Using the same techniques with heating your home as you used for cooling can conserve Natural Gas and Fuel Oil. Lower the thermostat when you are not home and save.
If using gas appliances reduce the time preheating your oven and make sure washer and dryer loads are large enough before use.
Reduce Gasoline Expenses
Gasoline costs have risen tremendously over the last few years, conserve and drive only where and when needed in order to save on those gasoline costs. Please consider car pools to work or to the store for transportation savings. Using public transportation could also be very cost effective. If it’s time to buy a new car you should consider a more fuel-efficient model that could get you years of gas savings.
Cell Phone Costs
Cell phone charges have also gone way up, with tablets and Ipads and such all attached to someone’s cell phone bill. This can make your connectivity very, very expensive. Take a step back and consider if you have a tablet that does everything a smart phone does do you still need the smart phone? Maybe a basic telephone/texting model will do and you can save money on hardware and monthly service cost. When you’re on a family plan I know you want your second grader to have a phone but do they need the most resent smart phone technology? Answer NO, all they need is a phone they can text their friends with and call Mom and Dad if there’s an emergency. Of course children “needing a phone” is a stretch in most cases. Save money, use less cell service and less technology and hardware.
Well that completes the message on debt to income ratio. Understand it will affect whether you get funded for any personal loan.
Interest Rates
Now let’s talk about interest rates on personal loans. You could get offered a variable rate loan, meaning that the rate may and probably will adjust upwardly during the life of your loan. Interest rates are typically calculated using the current prime plus points. Prime rate is the interest rate set by the Federal Reserve and it is used by many financial institutions as the basis for any adjustable rate loans. So if you’re offered a variable rate loan and the Prime rate goes up, the interest you pay on your loan will increase. You could also be offered a loan with a fixed rate. That Fixed rate will not change or increase during the life of your loan, unless there is a clause in your loan documents that state making payments late could increase your fixed rate to a higher default rate because you did not make your payments on time.
If you have a choice choosing a fixed rate would most times be to your advantage because the changing interest rates will not affect your loan. The variable rate is a little more of a gamble. Hoping that interest rates or the “Prime Rate” will not increase. The Prime rate has not moved in almost two years so the variable option maybe just fine for you.
Personal Loan rates can range any where from 6.5% to 29.99%, the rate will depend on the factors reviewed early in the article. Primarily your Credit Score and Debt to Income Ratio. Of course when it comes to your Credit Score the higher the better. Your Debt to Income ratio the lower the better.
Loan Fees
There maybe fees associated with funding your personal loan. You could be charged initiation fees, closing costs, setup fees or annual fees along with the interest on your loan. All fees must be disclosed to you before signing your loan documents so please do your homework and make sure you know what fees you maybe charged and how much those fees will be. Some banks will charge a fee for paying off your loan early. Make sure your aware of prepayment penalties. The reason some banks charge these fees is because they plan on making a certain amount of interest on your loan over the full life of that loan. If you pay it off early then the bank does not make as much as they planned, they may charge you the prepayment penalty to recover what they consider as lost revenue. The best way to pay as few fees as possible is to ask the right questions and know what fees can be charged and choose the personal loan product with the least fees.
Loan Payoff
The pay off structure of your personal loan is very important. If you get a straight personal loan with a “fixed rate” you get the entire amount of the loan when it is funded by your bank. The payoff will then be structured on a monthly basis and a payment that consists of principal plus interest at the same rate until the loan is paid in full. If your personal loan is at a “variable rate” the monthly payment will still be principal plus interest but the interest amount could change from month to month making your monthly payment increase.
Line Of Credit
Let’s say your personal loan is written as a Line of Credit. You will be offered a line of credit for a certain amount and you can draw or take any portion or that entire amount. The payment on this type of loan would be Principal plus interest on only the outstanding balance. As you repay the loan you may then borrow the funds again up to the amount of the line of credit you were approved for.
Co-Signers
What do you do if you are close to meeting the requirements of obtaining a Personal Loan, but you fall a little short and cannot get funded. One option to improve your chances maybe to get someone to co-sign the loan with you. A co-signer could be a friend or family member, maybe one of your parents or a sibling. Your co-signer should be have a good Credit Score and a low Debt to Income Ratio. Your co-signer also needs to know what they are signing up for by co-signing for you. You get to use the strength of their Credit to get your personal loan funded, but they are also fully responsible for paying back the loan if for some reason you do not pay your loan. So it’s a major commitment for your co-signer but a big plus for you if you can’t be funded on your own.
Many people use their parents as co-signers because they have been looking out for their children their whole life and continue to do so helping you get a loan.
Conclusion
Hopefully you have learned a lot about personal loans and what to look out for and what your bank may be looking for before funding your personal loan.
Use this information wisely and if the need arises in your life where you need a personal loan watch out for all the possible pit falls. Information and knowledge are the key to knowing what you are getting yourself into. Get as much information upfront (before you sign on the dotted line) and make a good decision. If your primary goal is to pay off credit card debt and your credit score prevents you from obtaining a personal loan, consider debt consolidation or a debt management plan offered by approved non-profit agencies.
