19 terms you need to know when comparing personal loans

0

Image source: Getty Images

Here are the terms you should know before taking out a personal loan.

Here are the terms you should know before taking out a personal loan.

If you apply for a private loan, it may appear that the General Terms and Conditions are written in a different language. To help you, here’s a primer. These 19 personal loan terms will sharpen your vocabulary and help you make the right decision.

1. Annual Percentage Rate (APR)

How much you pay to borrow money over the course of a year.

For example, a $1,000 loan at 15% APR would cost you $150 if you didn’t make payments for a year. This includes the interest rate and any sales charges. The APR is a better representation of the cost of borrowing than the interest rate.

2. Automatic payment

The process in which a third party, e.g. a lender, gains access to your bank account to withdraw a monthly payment.

Autopay is also known as ACH (Automatic Clearing House).

3. Co-signer

A creditworthy individual who agrees to take legal responsibility for repaying your loan.

If you do not have sufficient credit, income, or other qualifications to obtain a personal loan yourself, some lenders allow you to apply with a joint applicant or co-signer.

To be clear, most personal lenders do not allow co-signers. If this is important to you, be sure to look for one that does.

4. Credit Report

A document listing your debt obligations and payment records.

Negative credit information such as direct debits, collection accounts, and court judgments may also appear on your credit report.

There is three major credit bureaus that maintain credit reports for American consumers – Equifax, Experian and TransUnion. Any of these three can be used to generate a credit report and FICO® score.

5. Debt to Income Ratio (DTI).

Your monthly debt obligations (mortgage/rent, car payments, loans, etc.) expressed as a percentage of your pre-tax income.

For example, if you have $1,000 in monthly obligations and make $5,000 a month before taxes, you have a 20% DTI ratio. Along with your credit and employment status, your DTI ratio is one of the main factors lenders use to qualify borrowers.

6. Debt Consolidation

The process of combining multiple debts into one.

For example, if you get a personal loan and use it to pay off four credit cards, you’ve used up the loan consolidate your credit card debt.

7. Default

Failure to meet your repayment obligations on a loan.

If you default (stop making payments) on a personal loan, the lender may take legal action to collect the balance. They could sell the debt to a collection agency or even sue you.

8. FICO® Score

The most commonly used credit scoring model.

Values ​​range from 300 to 850, with higher values ​​being better. When applying for a personal loan FICO® score is one of the main factors that a lender uses to decide whether you should be approved. It also determines your interest rate and other loan terms.

9. Fixed Rate

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

For example, let’s say you get a five-year personal loan with an 8% interest rate. You pay an interest rate of 8% on your remaining debt for the entire term of your loan. This is in contrast to a variable interest rate, which we will discuss below.

10. Hard credit request

A “official” credit check which appear on your credit report and may affect your credit score.

A single request probably won’t lower your score by more than a few points. Typically, a personal lender will perform a soft check during the pre-approval process, but will use a hard request when you apply for the loan.

11. Installment Credit

A debt that you pay off in a certain number of installments.

For example, if you get a 60-month personal loan, your obligation ends after you make the 60th monthly installment of the loan.

12. Interest Rate

The amount of money a lender charges you each year for outstanding debt.

You can determine your monthly interest payment by multiplying your outstanding amount by the interest rate and dividing by 12. If you have $750 left over on a 10% interest loan, your monthly payment is $6.25 ($750 x 0.10 = $75 / 12 = $6.25).

Note that this payment would not reduce your capital balance. You would have to pay more than $6.25 if you wanted to cover more than just interest.

13. Referral Fee

A charge by a lender to compensate for arranging your loan.

Origination fees can be expressed as a specific dollar amount or as a percentage of the loan amount. Some personal lenders do not charge referral fees. If you have less than ideal credit, you’re more likely to pay one.

14. Prepayment Penalty

A fee is charged if you repay your loan early.

These are rare in the personal loan industry. But they exist, so be aware of them.

15. Refinancing

Take on new debt to replace old debt.

People talk about consolidation and refinancing interchangeably, but they’re actually different. You can refinance multiple debts or just one. For example, if you have an 18% APR credit card and use a 10% APR personal loan to pay it back, you’ve refinanced the debt.

16. Revolving Debt

Debts that have no set repayment date.

Credit cards are a form of revolving debt. There’s no set repayment date for a credit card — it’s a perpetual line of credit that lasts until you or the credit card issuer decides to cancel it.

17. Soft Credit Request

A credit check that does not affect your credit score.

Think of it as a lender’s sneak and peek to see if you meet their qualifications. For personal loans, a gentle credit check is generally performed during the pre-approval process when borrowers review their interest rate quotes.

18. Unsecured Loan

A loan that is not secured by a specific asset (referred to as “collateral”).

Personal loans and most credit cards are unsecured forms of borrowing. In contrast, a mortgage is a secured loan because it is backed by the value of your home.

19. Floating Rate

An interest rate that is periodically (usually annually) adjusted according to a benchmark index.

This is also known as an adjustable rate. You’ll often see personal loans that use the prime rate as a benchmark. For example, if your interest rate is prime + 4% and the base rate is 5% at the time of your adjustment, the interest rate on your loan will change to 9%.

Know what you’re getting into with personal loans

By learning these terms before beginning the personal loan application process, you’ll be better prepared to understand what you’re reading. And that helps you make wiser financial decisions.

As with any personal finance topic, the more familiar you are with the process, the better off you will be.

The Best Personal Loans of Rise for 2022

The Ascent team has researched the market to bring you a shortlist of the best personal loan providers. Whether you want to pay off debt faster by lowering your interest rate or need some extra cash to tackle a big purchase, these top tips can help you achieve your financial goals. For the full rundown of The Ascent’s top picks, click here.

Share.

About Author

Comments are closed.