By Bryan Borzykowski
More Americans are turning to personal loans to improve their financial futures. In the fourth quarter of 2016, 15.8 million Americans had a personal loan, the highest level since 2009, according to Transunion. There are many reasons to take out a personal loan: to consolidate debts, pay off mounting higher-interest bills or manage major expenses.
If you are considering a personal loan take a bit of time before you apply to research lenders and their personal loan features, because they aren’t all the same. The time you take to research can help you be sure that you are choosing a lender you trust and that you understand the process. Then, to help the application process go as seamlessly as possible, get your ducks in a row. The more you know about the loan process before you apply, the better off you’ll be. Here are five crucial things to consider before taking out a loan.
Your Credit Score
Whether you’re approved for a loan, and at what rates, depends, in part, on your credit score. Those with average to above-average credit scores may be more likely to be approved, and possibly with an interest rate on the lower end of a lender’s rate spectrum. So it’s a good idea go into the application process knowing your credit score.
There are many ways to see your credit score at no cost. Credit reporting companies like Transunion and Equifax have to give you one report at no cost every year, but banks and personal loan lenders also offer free reports, said Greg McBride, chief financial analyst at Bankrate.com.
When you receive your credit-score report, read through it carefully. A report could contain errors such as incorrect personal information, or indicate that a bill or loan hasn’t been paid when it has. If there is a mistake, file a dispute with the credit bureau and aim to get it fixed immediately. “The best way to improve your credit score is to clean up any inaccuracies that may exist,” McBride said.
A credit report can also tell you if you have outstanding payments – maybe you forgot to make a payment on an old credit card – which you can then address before applying for a loan, said Beverly Harzog, a consumer credit expert and author of The Debt Escape Plan.
Understanding The Credit Utilization Ratio
Credit scores are determined, in part, by your utilization ratio, which is the amount of debt outstanding to your total line of credit. For instance, if you have $ 10,000 in available debt, but have only borrowed $ 2,500 of that credit, then your utilization ratio would be 25 percent.
Credit scores tend to rise when the utilization ratio is below 10 percent, said Harzog. Anything above 10 percent and the score starts to fall. Since a credit score is a snapshot of a given moment in time, if you can lower that ratio by paying off some of your debt prior to applying for the loan, then you may be able to get a better interest rate.
“Take a couple of months and pay that down,” Harzog said. “This is a really good thing to do ahead of time.”
You Need To Create A Budget
It’s important to figure out if you can even afford a loan before applying for one — and that takes budgeting. Add up your income and expenses and see where a new monthly payment can fit into your budget. If you can’t make the payments, then you may need to cut other expenses.
Creating a budget also helps determine the length of time you’ll need to make loan payments. If you can afford larger monthly payments, then you can take out a shorter-term loan, which usually comes with a better interest rate than a longer-term loan, McBride said. If your budget is tighter and you can only make smaller payments, a longer amortization period might be the better way.
To help you budget, play around with a loan calculator online to get a better sense of what a monthly payment might be.
How To Check The Fine Print
Loans come in all shapes and sizes and from a variety of different companies – some of which may even be considered more stable and trustworthy than others. It’s important to know about the company you’re dealing with before applying for a loan. How long has the company been around? Do they showcase customer reviews on their website? If you aren’t familiar with a lender, Harzog suggests contacting the Better Business Bureau to see if there have been any complaints and that the outfit is legitimate.
Another piece to look for in the fine print is additional fees. Make sure the loan provider isn’t going to ding you for paying it off before the term is up. While some companies don’t charge pre-payment penalties, some do, Harzog said. A company could also charge an origination fee – a cost for administering the loan – so be sure to visit the lender’s website and read up on what you may have to pay. It’s possible to find a company that doesn’t charge either of these fees— Discover Personal Loans is one example.
Having Your Information Ready
Personal loan applications are not nearly as rigorous as mortgage applications, which may require mounds of paperwork, appraisals and other intensive documentation, but you still need to make sure you have the right information for a successful loan application.
It can take as little as 15 minutes to apply online, and you could get approved within minutes. Some companies, like Discover allow customers to see whether they will be approved and to check their rates before formally applying.
Regardless of how you apply, you’ll need to provide your Social Security number, proof of income and tax return information, said Harzog. Companies want to make sure you can handle the loan payments, so they want to ensure that you’re making money and don’t owe anything to Uncle Sam, she said. Be sure to gather all that information before you apply.
Once you have your financial house in order, the loan application and decision from the lender can come fairly quickly. And, now that you know what to do before applying, the process will also be much less stressful and hopefully successful.
Bryan Borzykowski has written three books on personal finance. He also writes about businesses and technology. Bryan is on Twitter @bborzyko.
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