If you need money for a large purchase, or if you would like to consolidate existing debt and lower your interest rate, a personal loan may be the best solution. Before you take out a loan, make sure that you understand the pros and cons, as well as the alternatives.
How Does a Personal Loan Work?
If you take out a personal loan, you will receive the funds in a lump sum. You will have to make monthly payments that will include principal and interest. It might take several years to pay off the loan.
Personal loans generally don’t require collateral. Interest rates on personal loans are typically lower than rates on credit cards. People with lower credit scores are generally charged higher interest rates.
When Should You Consider a Personal Loan?
If you currently have high-interest credit card debt and you’re struggling to keep up with the minimum payments, consolidating those balances into a single personal loan can help. You will have one monthly payment, and a lower interest rate could save you thousands of dollars in interest.
You might want to take out a personal loan to cover the cost of home repairs or improvements. This can be a good option if you don’t have a significant amount of home equity and can’t qualify for a home equity loan or home equity line of credit.
Even if you do have a lot of equity, you might prefer to take out a personal loan. If you borrow against home equity and don’t keep up with the payments, you can lose your home in foreclosure.
When Should You Not Take Out a Personal Loan?
If you’re planning a wedding or a vacation, save up money for that purchase instead of taking on a debt that you will be paying off for years. For unexpected medical expenses, consider an alternative, such as a low- or no-interest credit card that’s specifically meant to be used for healthcare costs.
If you want to buy a new car or finance educational expenses, you can take out a personal loan, but an auto or student loan will probably be a better choice. A loan designed for a specific type of expense generally has more favorable terms than a personal loan.
Is a Personal Loan Right for You?
Before taking out a personal loan, think about your current monthly budget. If you’re struggling to manage multiple credit card payments, consolidating them into a single personal loan can help.
If you’re thinking about making an expensive purchase but money is already tight, you might struggle to fit a loan into your budget. Ask yourself if the expense is really necessary. You might want to postpone the purchase or scale back a project to avoid becoming overwhelmed by debt.