Whether taking out student loans to pay for school, a mortgage to purchase a home, or a business loan to start a company, most of us will have to borrow money at some point in our lives. For the expenses that aren’t so clear cut, many of us will turn to personal loans. With so much flexibility in how they can be used, personal loans are becoming a popular means for financing large purchases, covering unexpected expenses, or consolidating higher-interest debt.
As appealing as personal loans are, there are some common missteps that end up hurting borrowers’ financial situations more than helping. Here are the four biggest mistakes to avoid when taking out a personal loan and how you can prevent them.
Rushing into the Wrong Loan
Imagine walking into a store and seeing the perfect shirt. It’s exactly what you were looking for, and you have to have it. You’re happy with your impulse purchase—that is until you go to the next store and see an even better-looking shirt. Chances are, you’ll instantly regret your decision on buying the first shirt! That’s why it’s essential to shop around for a personal loan rather than rushing into the first one that you get approved for.
Be sure to do your research on each personal loan company you’re looking at before you apply. Applying for multiple loans in a short period could damage your credit score if you aren’t careful. Be sure that you can check offers with a lender without affecting your credit score. Also, some lenders charge you a nonrefundable application fee to process your application, so knowing exactly where you’re going to apply will save you money in the long run.
Forgetting to Check Your Credit Score
People often forget to check their credit before applying for a personal loan. When you’re unsure where your credit stands, you’re more likely to take the lender at their word when they run your credit and present you with an offer. While it’s possible that this offer is going to be fair, you’ll still want to have your credit report on hand on the off chance that the offer is not actually the best you can get.
Additionally, not knowing your score may lead you to apply for loans that you likely won’t get approved for, resulting in multiple blows to your score and a waste of your time.
Related Blog Post: Understanding Your Credit Score
Focusing Solely on the Monthly Payment
When evaluating a personal loan, many people focus exclusively on the monthly payment. However, a lot more factors into the terms of a personal loan, and overlooking those terms can lead you to pay a lot more than you’ve planned to.
In addition to the monthly payment and interest rate, always look out for the following when considering a loan:
Prepayment Penalty
Being able to pay off your loan quickly is a good thing—it means you’ll pay less interest in the long run! However, early repayment doesn’t help the lender as they’ll see less revenue from your interest payments. Some lenders may charge what’s known as a “prepayment penalty fee” to offset this loss in interest payment income.
Even if you don’t plan on paying off your loan ahead of schedule, it’s a smart idea to find out if your lender charges a prepayment fee before you sign anything.
Origination Fee
An origination fee is a payment some personal lenders will charge for “originating” or funding your loan. While it varies by lender, it is typically between 1% to 6% of the loan amount. Origination fees can be deducted from the total funded amount before you receive the funds or they can be added to your loan principal amount.
It may not seem like a big fee, but it can add a considerable amount to the loan depending on the terms your lender lays out. For example, a 5% origination fee on a $15,000 loan is $750.
Loan Terms
Your monthly payment isn’t just a factor of your loan’s interest rate—it’s also related to the length of the loan. Extending the “life” of your personal loan will lower your monthly payment, but it will also cost you more to borrow those funds. The longer it takes you to pay off the loan, the more interest you will end up paying.
Late Fees
Though no one sets out to pay their loan back late, sometimes life throws in a few roadblocks. Just in case this happens to you, it will be useful to know what your lender charges for missed or late payments.
Bounced Check Fees
If your loan payment is returned to your bank due to insufficient account funds, your personal loan lender may charge you a hefty fee on top of what your bank charges you.
Overlooking How the Interest is Calculated
You probably know that the interest rate on a personal loan is a crucial factor when choosing the loan that’s right for your financial situation. Your interest rate determines the total cost of borrowing. But did you know that the interest rate itself isn’t the only thing to consider when looking at interest?
How often compound interest is calculated is a key factor in the total amount of interest you’ll be paying over the life of your loan. Interest is typically compounded daily, monthly, biannually, or annually and will determine just how quickly it will accumulate over time.
Related Blog Post: How Your Credit Score Affects Your Interest Rate
At Credit Direct, we make the lending experience simple. With one quick online application, you can check offers with no effect to credit score. We lend directly as well as through our trusted lender partner network so you can get the best offer available. Apply online today or call us at 866-414-4198 to speak with a Loan Agent.