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How do personal loans work? Here’s the process in 7 simple steps

What to expect when you apply — and what to avoid.

Applying for a personal loan doesn’t have to take much time if you know what you’re doing. By following a few simple steps, you can make sure your personal loan experience is positive — and doesn’t cost you an arm and a leg.

Personal loans work by giving you access to money to cover personal expenses, which you pay back with interest and fees over a set period of time. The money you borrow can be used for almost any purpose, though some lenders won’t allow you to use your funds for business purposes or secondary education.

But before you can get your hands on a loan, you need to apply first. To get the best deal available to you, there are a few steps you might want to follow before you sit down to fill out the application.

Step 1: Compare your options

When comparing your options, start by figuring out what type of loan you’re looking for. There are a few different types of personal loans out there, and the one you apply for will depend on your needs.

Secured personal loans

Secured loans require you put up collateral. Unlike car loans, you don’t necessarily need to use the funds you borrow to purchase the asset you’ll be using as security. This means you can use your loan for anything, such as consolidating debt or undertaking home renovations.

Secured loans are less risky for lenders so they tend to come with lower rates.

Unsecured personal loans

If you’re looking to obtain funds without offering an asset as collateral, you can consider an unsecured loan. As there is a higher risk for lenders if you default, the interest rates are usually higher. However, you’ll generally have more flexibility with how you use your loan.

Personal lines of credit

A personal line of credit is an account you access to borrow funds in specific amounts as you need. It works a lot like a credit card with one key difference: It gives you access to cash rather than credit. A line of credit could be useful for long ongoing projects like home improvement, where some expenses like hiring a contractor can’t be covered with plastic.

With a line of credit, you have a limit that you can draw up to, and you’re only charged for how much you use. As you repay, your credit limit may even become available again.

Car loans

These loans are specifically designed for vehicle purchase. This vehicle is usually a new or used car, but some lenders also offer loans for motorcycles, RVs, boats and more.

Your lender uses the vehicle as collateral for the loan, so it can repossess it if you default. In return, you can typically expect lower interest rates than you would with an unsecured loan. There may be restrictions on the age and condition of the vehicle, so check this before you apply.

What's next

After you’ve decided what type of personal loan you want to apply for, here’s how to compare the personal loan offers from different lenders:

  • Loan amount. What is the minimum and maximum amount the lender lets you apply for and is it enough?
  • Loan terms. What are the minimum and maximum loan terms? Usually terms of between two and seven years are available, but it differs between providers.
  • Fees. Alwayscheck for fees such as what you're charged to get the loan and ongoing costs such as monthly or annual fees.
  • Interest rate. Is the rate fixed or variable? Is it competitive?
  • Repayment amount. Once you know your loan amount and terms, use a loan repayment calculator to see if the repayments will be affordable on your budget.
  • Repayment terms. Can you choose your repayment schedule? Can you make extra repayments without a fee? Can you repay the loan early without penalty?

Compare personal loans now

Explore your options by APR, minimum credit score or loan amount. Select the Go to site button for more information about a particular lender.

1 – 8 of 8
Name Product Filter Values APR Min. Credit Score Loan Amount
Credible personal loans
3.99% to 35.99%
Fair to excellent credit
$600 to $100,000
Get personalized rates in minutes and then choose an offer from a selection of top online lenders.
Best Egg personal loans
5.99% to 35.99%
600
$2,000 to $50,000
A prime online lending platform with multiple repayment methods.
Upstart personal loans
5.4% to 35.99%
None
$1,000 to $50,000
This service looks beyond your credit score to get you a competitive-rate personal loan.
Upgrade personal loans
5.94% to 35.97%
600
$1,000 to $50,000
Affordable loans with two simple repayment terms and no prepayment penalties.
LendingPoint personal loans
7.99% to 35.99%
585
$2,000 to $36,500
Get a personal loan with reasonable rates even if you have a fair credit score in the 600s.
SoFi personal loans
6.99 to 22.23%
680
$5,000 to $100,000
A highly-rated lender with competitive rates, high loan amounts and no fees.
LendingClub personal loans
6.34% to 35.89%
600
$1,000 to $40,000
A peer-to-peer lender offering fair rates based on your credit score.
Monevo personal loans
1.99% to 35.99%
None
$500 to $100,000
Quickly compare multiple online lenders with competitive rates depending on your credit.
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Compare up to 4 providers

Step 2: Check the eligibility criteria

Making sure you’re eligible first prevents you from wasting time considering a loan you can’t qualify for. While the basic eligibility criteria you need to meet varies by lender, these are the most common points lenders consider on your application:

  • Credit score. Although online lenders weigh credit scores differently than traditional lenders, you’ll still have to meet a minimum credit score to qualify for many personal loans.
  • Employment. Most lenders will require you to be employed and working a stable job. Some lenders may consider alternative forms of income such as retirement or investments. If you’re only working part-time, that’s OK — there are loans you can qualify for.
  • Income. You may need to earn over a certain amount to be eligible to apply for a loan, but some lenders would rather see a low debt-to-income (DTI) ratio, usually under 43%.
  • Residency. Most lenders will require you to be a US citizen, permanent resident or on a long-term visa, though there are lenders that accept nonresidents.
  • Age. You’ll need to be at least 18 in most states, although some states require you to be 19 or 21 to apply for a loan.

Just because you meet these requirements doesn’t mean you’ll be approved for a loan. You need to be able to show you can afford what you borrow without straining your budget. Lenders will look at your income, outstanding debts and employment in order to determine if you’re an eligible applicant.

Step 3: Complete the application

The application process for a personal loan differs between lenders. Many lenders give you the option to apply online, at a branch or over the phone. Usually, you’ll have to submit a variety of documents and information to your lender, either during the initial application or after you’ve been preapproved.

To process your application, your lender will need you to supply a few basic pieces of information first. These typically include:

  • A government-issued ID. You’ll need to provide your driver’s license, passport or another form of government-issued identification when applying for a loan.
  • Proof of income. Depending on the lender, you may need to provide three to six months of pay stubs or bank account statements. If you’re self-employed, lenders may request tax returns from the last two years.
  • Other financial documents. If you have other debts, such as loans or credit cards, you may need to provide statements from those accounts.
  • Social Security number or tax identification number. Lenders will request your SSN or TIN so it can confirm your identity.

Online applications usually take just a few minutes to complete if you have all your information ready to go. Applying for a personal loan in person or over the phone takes a bit longer, but you’ll have someone there to help you through any confusing steps.

Step 4: Wait for an approval notification

Some lenders electronically underwrite your application and can let you know if you’ve been preapproved within a few minutes. Others process their applications more slowly, which can take days or weeks. No matter which your lender does, there are two steps when you receive approval: preapproval and full approval.

Preapproval

Preapproval, also called conditional approval, usually takes less time because the lender is simply assessing your strengths as a borrower. It’s given pending more information from you, such as additional pay stubs or documents relating to your assets or debts. The lender will still need to fully underwrite your application and check your credit before issuing full approval.

Full approval

Full approval is given when you’ve supplied sufficient information for the lender to make a decision on your application. Your lender will provide you a loan contract or loan agreement that outlines how much you’ll be borrowing, how much you need to pay back and other important details regarding your loan.

Step 5: Receive your loan funds

Lenders are able to fund your loan in a number of ways. For example, when you take out a car loan, the lender may pay the car seller directly. This is often the same case with loans for debt consolidation — they send the money directly to your creditor.

If you’re borrowing an unsecured personal loan, your lender sends the funds to the bank account you provided. It generally takes a few business days for the loan to be transferred, and you may be able to sign up for automatic payments to reduce your interest rate — or at least minimize the risk of forgetting to pay on the due date.

Step 6: Figure out repayment

Most repayment terms are monthly. Some lenders only work online and only accept direct payments from your bank account, while others will allow you to pay back your loan via check or money transfer.

If you plan on making extra payments toward your loan or paying it off early, make sure your lender doesn’t have restrictions on how much you can pay per year and that it doesn’t have any prepayment penalties.

Step 7: Close out your loan

If you’re simply making your payments as set out in your loan contract, then your loan should be closed following your final payment. However, if you’re planning to repay your loan early, it’s a good idea to call the lender and get a final payout figure. This ensures your loan will be closed when you make your final payment and you won’t be charged any unexpected interest.

Compare personal loans now

4 common personal loan traps to watch out for

When taking out a personal loan, avoid falling into these traps — which can often lead to higher payments or fees:

  • Insurance. Some lenders try to stick on life or unemployment insurance to your loan documents. While having insurance can be beneficial, these policies can also be expensive and make your loan unaffordable. If you’re interested in life insurance, be sure to do some research first before agreeing to a plan.
  • Origination fees. It’s not uncommon for lenders to charge origination fees, but what some borrowers don’t realize is that this fee is subtracted from your loan amount before you receive your funds. In other words, you never see all the money you qualified for. For example, a 10% origination fee on a $1,000 loan means you’ll only receive $900 in your bank account.
  • Prepayment penalties. You likely won’t be able to save on interest if your loan comes with a fee for paying it off early. Prepayment penalties are a way lenders can ensure that they get as much of a return on your loan as they would have if you stuck to the original payment terms.
  • Precomputed interest. This type of interest is added to your loan balance before you start making payments, rather than accruing over time. Precomputed interest means you can’t save on interest if you repay your loan early and essentially acts like a built-in prepayment penalty.

What else to watch out for when comparing lenders

When should I avoid a personal loan?

Personal loans can be useful tools when you’re looking to consolidate debt or pay for a big expense up front, but that doesn’t mean they’re always the best idea. Here are some situations when you might want to avoid taking out a personal loan:

  • When you could save insteadEvents like weddings and expensive vacations can be costly, and many financial experts advise against borrowing money for something that has no resale value. If there’s no time crunch, consider budgeting your expenses until you’ve saved up to cover the cost on your own.
  • When you’re building your creditWhile debt consolidation can be a good way of minimizing open accounts, this may not always be the best way to boost your score. Instead, make timely payments to your accounts and negotiate your debt with your current creditors instead of opening a new personal loan account.
  • When you might over-borrowIt may seem like an obvious point, but don’t overlook it. Taking out a personal loan for discretionary spending can be a waste of money. Instead, a line of credit or a credit card with a low limit may be a cheaper way to handle everyday purchases.

How does the personal loan approval process work?

How your lender approves your application can vary. Many online lenders use an automated underwriting system that quickly scans the information you provided to determine how much you can reasonably afford to borrow and what rates and terms you’re eligible for. This can take as little as a few minutes.

Other lenders like banks and credit unions tend to have staff underwrite each loan application. This can take at least a few days.

Often lenders ask to see documents that can back up the information you provided in your application — like pay stubs or bank statements. You can typically upload these to your application if you applied online or bring them in person if you visited a location.

Bottom line

Personal loans can take a variety of forms and be used for almost anything, but that doesn’t mean you should go with the first lender you find. Take your time to compare options and do your research to ensure you’re taking out exactly the right type of loan for your needs.

To compare lenders and learn more about how it all works, read our comprehensive guide to personal loans.

Frequently asked questions

What hidden fees or charges should I know about?

There may be application fees, early repayment fees, establishment fees and origination fees — though most legit lenders are up front about these costs.

That’s why it’s important to read and understand your loan contract before applying. If there is any wording you’re unsure of, ask the lender for clarification.

What's the difference between variable- and fixed-rate loans?

When you take out a variable-rate loan, the interest rate you’re charged may change over your loan term. A fixed-rate loan has an interest rate that doesn’t change. Unsecured and secured loans may have either type of interest rate, so check your loan contract to ensure you know which you’re being charged.

What if I pay off my loan in full at once?

You may be able to do this, but it’s important to contact your lender to obtain a payout figure. You may incur fees for early repayment as well.

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4 Responses

  1. Default Gravatar
    AudreeDecember 10, 2017

    I was thinking of applying for a 5,000 loan for a wedding. Does it matter if I apply for the loan now, even though I plan to have it a year or so later?

    • Avatarfinder Customer Care
      AnndyDecember 12, 2017Staff

      Hi Audree,

      Thanks for your question.

      If you’re using an unsecured personal loan to fund your wedding, lenders often don’t care what you use the funding for and when you will use it, as long as it’s a legitimate purpose.

      You may check our guide and compare your wedding personal loan options.

      Cheers,
      Anndy

  2. Default Gravatar
    DonnaOctober 9, 2017

    Back in 2003 HFC home finance gave me a loan at 10 % on $14.000 dollars and I paid $252 .00 per month on the 17 th each month and after x3 years the principal never went below $10.000 dollars and I paid 5 years and 3 months and called the offices and they told me I had a very high interest rate on the money ! I asked why it was suppose to be %10 and they said it was %100 or %200 percent plus I charged $1700 dollars on my credit cards back in 2009 and in 2011 I paid them checks out of my mothers checking account another $1000 dollars and the chain of collections keep calling my husband for money I owe.

    • Avatarfinder Customer Care
      HaroldOctober 10, 2017Staff

      Hi Donna,

      Thank you for your inquiry.

      While we do not represent any company that we feature on our pages, we can offer you a general information. It would be nice if you can call the lender directly to clarify this matter. HFC Bank doesn’t operate in the US, so you may want to confirm the terms are permitted based on location’s regulations

      I hope this information has helped.

      Cheers,
      Harold

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