skip to main content

See the results of our 2021 Family Budget Survey. Click Here to Learn More!

The Ultimate Guide to Online Loans

By
Ann C. Logue, CFA
Ann Logue is a writer specializing in business and finance. She is the author of five books on investing and has written for Barron’s, Entrepreneur, and InvestHedge, among other publications. She lives in Chicago and holds the Chartered Financial Analyst designation.
Fact Checked by
Tamara Altman
Dr. Altman has over 25 years of experience in social science, public health, and market research, statistics, evaluation, and reporting. She has held positions with, and consulted for, many government, academic, nonprofit, and corporate organizations, including The Pew Charitable Trusts, the National Park Foundation, Stanford University, UCSF, UC Berkeley, and UCLA.
Updated on August 23, 2021
A woman sitting on a couch with a laptop in her lap.
Not all personal loans require a brick-and-mortar financial institution.

Run a simple search for a personal loan, and you’ll get a ton of results. Not all of these results will address your financial needs. Some will be for a different situation than the one you face, and others will have terms and conditions that are best to avoid. 

This article will cover the ins and outs of online loans to help you get the best loan offer you can.

What is an online loan?

An online loan is any loan you obtain online. That part is easy. The types of loan options out there vary. It is possible to obtain a mortgage or car loan online if you are looking to buy a house or a car. 

Generally, a personal loan is defined as one backed by your personal resources rather than an asset, like a car, or contingent on your activities, like a student loan. It can be used for anything. Many people look for small personal loans to address a financial emergency or a temporary tight situation. Some banks and credit unions offer these loans, although you may have to visit a branch in person to apply. Other loans are issued through companies that specialize in these.

Why is it important to talk about online loans?

Any type of loan affects your finances. Borrowing money can help you pay for things that you could not afford otherwise. Managing a loan can help you improve your credit rating. However, failing to pay off a loan can hurt your finances.  

When shopping for an online loan, you want to look for a few things: a low-pressure application process, loan amortization, and no or very low fees.

Will an online loan impact my credit score?

Yes and no. When some online lenders run a FICO credit check, it will trigger a notice to the credit bureaus that may lower your FICO credit score. Other lenders use information sources that will not trigger a credit check. When you pay off your online loan, some lenders will report that information to the credit bureaus, raising your credit score. If you do not make on-time payments or default on the loan, it will be reported to the credit bureaus and that will hurt your rating.

What is amortization?

Amortization is a process that sets payments equal to the amount of interest earned to date plus enough principal to ensure that the loan is paid off at the end of the term. Mathematically, the amortization calculation is based on the annuity equation. On a financial calculator:

  • N is the total number of payments
  • I/Y is the annual rate of interest
  • PV is the loan amount (or amount borrowed)
  • FV is 0. 

Then, solve for the payment. (If your calculator spits out a negative number, that’s okay. The minus sign means that you are paying money out.) The first few payments will be mostly interest; the last few payments will be mostly principal repayment.

Credit card users often add to their balances at the same time that they are making payments, and some carry a balance for years. To calculate the minimum monthly payment, the card issuer makes an assumption about how long the balance will be in place. It is often as long as 20 years, making for low minimum payments — and very little principal amortization.

The annuity equation is used because a loan is the inverse of an annuity. An annuity is a contract that pays out principal and interest every month. It is often used to save for retirement. When someone buys an annuity, they are investing money now. In the future, they will start collecting payments that include a portion of the original investment plus interest earned on it. If the annuity is supposed to pay out until you die, the insurance company makes an assumption about how long you are likely to live to calculate the payments.

Why is amortization important?

There are two big advantages to amortization:

  1. Repaying a little bit at a time helps keep payments affordable. You won’t be saddled with a gigantic final payment, known in the banking world as a balloon payment.
  2. You pay less in total interest over the life of the loan. Each payment reduces the amount of principal, and that in turn, reduces the amount of interest that will be charged on the next payment. If you make a small additional payment of principal, even an extra dollar or two, you will reduce the interest charges even more and shorten the length of time that the loan will be outstanding.

Amortization makes it possible to budget for payments and pay down principal. It makes it easier to pay off the loan.

Should I apply for an online loan?

Do you need a personal online loan? That’s a big question that you have to answer first. If you have a temporary cash shortfall that cannot be put off or met in another way, then a personal loan may be a suitable option.

If you decide that a personal loan is the right option, you will want to shop around. If your financial institution offers them, then you will probably get the best deal there. If you cannot get a personal loan that way, then it makes sense to look for an online loan. You may find that you get better loan terms and better service applying online than you would dealing with a storefront, especially if the only options in your community are payday and title lenders.

What is a typical online loan application process?

To begin the application process for an online loan, you will likely need some basic information such as your driver’s license, a pay stub, and your bank account information. After that, it’s up to the lender to verify your information and determine your eligibility.

Although applying for an online loan may be easy, it’s serious stuff. Make sure you ask questions about the loan rates and fees, the repayment process, the size of your payments, the repayment period, and related information to ensure that you’re getting a loan that suits your needs — not only your immediate financial situation, but your long-term budget. You need this information to make a good decision.

What are the online loan warning signs?

The online loans universe includes predatory companies. Some lenders set up loans to collect as much money in interest and fees as possible. They make it hard to pay off their loans. Pay attention before you find yourself in a messy situation.

Some warning signs include non-amortizing loans, high fees, and a hard sell without adequate disclosures.

Loans without amortization

The most common types of non-amortizing loans are such things as payday loans and auto title loans. These loans are designed to be repaid in full in a single payment, along with interest and any fees that are charged. Unfortunately, the majority of borrowers for both types of loans have trouble coming up with the total amount for the repayment. When this happens, the loans roll over, including interest and fees, and the total amount owed increases.

The problem is that if people had the money to make a single large payment, they probably would not have needed the loan in the first place.

Watch out for fees

Some online lenders promote low-interest rates, but then tack on fees for seemingly everything. Whether you call it a rate or a fee, it’s money out of your pocket. Will you pay a fee if you have a late payment? How about if you pay your loan off early? Make sure you understand the repayment terms, including the fees that the lender may charge, and shop around, because not all online lenders have fees.

Watch out for a hard sell

A personal loan is one way to solve a pressing financial problem, but it may not be the only way. During the application process, you may realize that you don’t need the loan, or that you need to borrow less than you thought. Or maybe you found a better deal from another lender. No matter, you have the right to change your mind, and you should be wary of any lender that pushes you too hard to sign their contract.

Can I (and should I) get an online loan if I have a bad credit score?

First of all, do you need an online loan? Is there another way to raise the funds you need to meet your financial needs? 

If you decide that you need a loan, know that there are lenders that work with people who have bad credit. Make sure that the loan is structured with affordable payments so that you can pay it off. 

Is an online loan the same thing as a cash advance?

Not exactly. A cash advance is usually structured as a check that you cash now less a fee, and the lender agrees not to deposit the check for a week. The fee may work out to be a high rate of interest, and the repayment may be difficult because it is due all at once.

Look for a loan that you will be able to repay, whether shopping online or in person.

Do online loans show up on my credit report?

Many online lenders report repayment data to the credit bureaus. This can help borrowers rebuild credit so that they have more financing options in the future.

Key terms

Amortization

A way of structuring a loan or annuity contract so that each payment includes some principal repayment as well as interest accrued.

Annual percentage rate

Interest and fees on a loan converted into a percentage, assuming that the loan is in place for an entire year.

Balloon loan

A balloon loan is a loan that calls for a single large repayment.

Bank account

An agreement with a bank that allows money to be deposited and withdrawn as needed.

Credit bureau

A business that collects information on financial transactions and uses it to assign a score to individuals based on their history. The three largest credit bureaus are Equifax, Experian, and TransUnion.

Credit history

Your record of paying bills on time and managing credit that has been extended to you.

Fixed-rate

An interest rate that does not change over the life of a contract.

Installment loan

An installment loan is repaid over time, with amortizing payments that include both principal and interest.

Interest

The cost of borrowing money, expressed as a percentage.

Lending partners

Banks that work with online lending firms to fund loans.

Line of credit

A type of loan that can be accessed as needed. For example, you may have a $5,000 line of credit but only need to borrow $600. 

Online lenders

Companies that operate on the internet and arrange loans.

Origination fees

Fees charged by some lenders to release money borrowed. 

Payday loans

Short-term loans that are intended to meet a payroll shortfall. They are repaid in one lump sum or rolled over for a longer time until repayment has been made.

Prepayment penalties

Fees charged by some lenders to make up for interest lost when borrowers pay a loan off early.

Principal

The amount of money owed on the loan.

Final Thoughts

In some ways, shopping for an online loan is like shopping for anything else. You are looking at what’s on offer and how it meets your needs. If you think of getting an online loan the same way that you think of buying a new winter coat or a comfy mattress, the process may be easier. 

Key tips/callouts

  • Loans have to be repaid at some point. That’s a given. Amortization not only makes it easier to pay off a loan, it also helps reduce the total amount of interest paid. If you need to borrow money, an amortizing loan should be your first choice.
  • Reducing principal reduces the total amount of interest that you pay. If you can pay even a dollar or two extra on your loan, you can pay it off faster and save money.
  • When shopping for an online loan, make sure you can afford the payments. Payday loans and other loans with a single large payment can be difficult to repay and lead to refinancing, rollover fees, and higher charges.

California Residents, view the California Disclosures and Privacy Policy for info on what we collect about you.