The OppLoans Guide to Safe Personal Loans
Borrowing money is a major financial decision … and a very common one. As of the end of April 2016, the Federal Reserve Bank of New York reported that American consumers had $3.6 trillion dollars in outstanding debt. That’s a significant financial obligation for people to manage. Some manage it better than others.
To help people make better decisions about their debt, we have created this guide to safe personal loans and responsible borrowing. The guide covers the process of taking out personal loans, paying off the loan, and building financial health after the personal loan is paid off. By better understanding these issues, you can improve your financial position.
The Federal Reserve Bank of New York collects credit data. They report the following amounts of debt outstanding from 2011-2015:
|Major types of Credit||2011||2012||2013||2014||2015|
Credit cards allow for revolving credit. These are loans that allow you to borrow up to a predetermined limit and make monthly payments. Credit card payments will vary depending on how much debt is revolving in addition to your card’s interest rate.
All other types of loans fall into the category of non-revolving. These are loans that are taken out at one time. When they are paid off, the borrower would have to take out a new loan to acquire additional funds rather than get more money from the old arrangement.
Why are you borrowing money?
Economists talk about investment goods and consumption goods. An investment good is an item that will have a future benefit, while a consumption good is something that you will use up today. It is key to consider why you are borrowing: are you borrowing money to make an investment, or are you borrowing for consumption?
Borrowing money to go to school is usually considered to be an investment. It is a good use of funds because an education may increase your earning power. Taking out a mortgage to buy a house is usually considered good because you need a place to live, and a mortgage lets you prepay your housing costs in retirement. Buying a car is usually a good use of funds, especially if you need a car to get to work.
The intended use of the funds affects your interest rate. That’s in part because of how likely you are to pay off the loan. A car can get you to and from work, which helps you make money to pay off the loan. It’s also in part based on whether or not the lender has an asset to take over if you don’t pay. In the financial crisis, many people lost their homes. They could not make the payments, so the lenders foreclosed on their houses. That’s a scary risk so mortgage rates tend to be really low to keep repossession from happening.
What’s your credit score?
A first step in getting a loan is finding out your credit score. The major credit bureaus — Equifax, Experian, and TransUnion — use credit scores when evaluating your loan application. These scores are collected by Fair Isaac Corporation, so they are known as FICO scores for short. The company has detailed information about how the scores are calculated and what they mean if you want to learn more about them.
A FICO score is a number between 300 and 850. The higher your score is, the better credit you have. A score below 600 usually indicates problems paying off loans in the past. Maybe you lost your job, had a personal crisis, or ran into unexpected expenses that made it impossible to meet your monthly payments. That situation may be over, but banks and other traditional lenders may not want to lend you money again.
You are legally entitled to one copy of your credit report from each of the three credit bureaus a year. Your credit score won’t be included on it, but you will see the information used to calculate your score. To get it, go to annualcreditreport.com, where you can request one report per year from each of the three major credit bureaus. If you see an error or omission, contact the bureau as soon as possible to get it corrected.
Calculating interest rates
An interest rate is the price of money. The lender starts with the government interest rate (the Treasury rate) and the amount of inflation in the economy. To that, it adds the cost of servicing the loan and cost associated with risk level. A borrower with good credit who is borrowing money for something with very little risk, like a mortgage, will be charged a very low interest rate. A borrower with bad credit borrowing money without the security of a car or a house will pay more.
If interest rates in the economy go up, everyone will pay a higher rate.
Some personal loans have an adjustable rate of interest, also known as a floating rate. Adjustable or floating rates change automatically, up or down, based on the overall level of interest rates. With other loans, the rate is fixed during the life of the loan. The rate you pay is based on what the rate was when you received the personal loan. If rates go down, you may be able to refinance the loan, but otherwise, your rate will stay the same as it was when you borrowed the money.
Choosing a lender
Lending is a competitive business. There are a lot of companies out there looking to lend you money, as anyone who watches late-night TV knows full well. Lenders are competitive in three areas—types of loans offered, interest and fees, and customer service.
The lending industry is competitive enough that the rates may not differ very much for a particular type of loan and a particular credit score, but there are some differences. It’s worth taking the time to shop around, because there may be more variation than you think.
Finally, lenders differ the quality of customer service they provide. Some lenders may make the experience difficult or confusing, while with others it will be a comfortable, transparent process. You can compare ratings, or get a feel for how you are treated when you are doing your research on the loan.
Managing the loan
Personal loans have to be paid back. Once you get the loan, you need to come up with a way to pay it off. How well you manage the personal loan can determine your long-term financial health. Think about this before you borrow money. If you have outstanding debt now, work on a plan to ensure that you pay it back with as few complications as possible.
How will you pay off your personal loans?
A key to managing your loan will be making payments on time and in full. Make a note of the due date on your calendar, as paper statements can get lost in the mail and email notices can get stuck in spam filters.
Many people set up automatic payments through their bank account. This reduces the risk of missing payments, as long as you have enough money in your bank account the day charges go through. If not, you risk adding an overdraft fee to late fees.
Of course, scheduling is irrelevant if you don’t know how much money is due. Don’t sign a loan without knowing how much money you will owe in each period. For example, it’s easy to get excited about instant credit at a department store, but make sure you know what your minimum payment will be before you sign on the dotted line.
The amount of the payment should be disclosed along with the other information that goes with the personal loan. There may be a few differences with the first payment, though. With some loans, the first payment may be due at a different time than the next payment. You don’t want to get off on the wrong foot with a new loan! (The last payment may be different, too — and it is often smaller, depending on whether you paid a little extra at any point during the life of the loan. Most lenders ask you to contact them for the payoff amount when it is time for that last payment.)
When you know what you have to pay, take the time to make a budget. It does not have to be complicated; simply make a list of how much money is coming in and how much money you need to spend on housing, groceries, utilities, and your debts.
Along with information on the loan payments and due dates, find out what happens if you miss a payment. Most lenders charge late fees, and some may tack on interest penalties as well. You could see your payment increase dramatically, and you don’t want that!
What if you can’t pay it back?
Sometimes, you run into problems paying off your loans. In a perfect world, you would have an emergency fund that you could use to cover the shortfall. You may also be able to get a temporary job or sell something that you don’t use in order to raise the funds.
If you can’t find the money to pay off your loans, contact your lenders. You may be able to negotiate a new payment plan or a late fee discount. The worst thing you can do is ignore the problem.
After you pay off the loan
You borrowed money and paid it off? Excellent! There’s still some work to do.
First, check your credit report to make sure that the payoff has been reported. If you came to the loan with a low credit score, your score should increase with the loan payoff. Strangely enough, if you have a very high credit score, it may go down after you pay off a loan, as these scores are based on how well you manage the debt that you currently have. If you have no debt, then you have nothing to manage. This is not necessarily a bad thing, because lenders can see from your credit report why you have the score that you have.
Second, if you don’t have an emergency fund, start putting some of the money that went toward your debt to establishing some savings. Your goal should be three to six months of expenses set aside in a safe bank account that you can draw on if you need to.
If your debt is paid off and your emergency fund is in place, then consider your other finance goals. You can put that money to work for you.
OppLoans is the nation’s leading socially-responsible online lender and one of the fastest-growing organizations in the FinTech space today. Embracing a character-driven approach to modern finance, we emphatically believe all borrowers deserve a dignified alternative to payday lending. Currently rated 5/5 stars on Google and LendingTree, OppLoans is redefining online lending through caring service for our customers.