7 Things to Remember Before You Take out a Loan
In April 2018, many U.S. consumers rejoiced and celebrated.
Because it was back then when FICO scores jumped to an all-time high, averaging an impressive 704!
This increase signaled more than strengthening financial health. It was also a reflection of the rise in the number of credit-worthier consumers.
It’s not all good news though. FICO also reported that 28.7% of consumers still had a credit score of 649 or lower.
If you’re one of these consumers, it may be harder for you to take out a loan. In fact, loan rejection is quite possible. In 2017 alone, banks rejected 76% of personal loan applications.
I’m not saying all these to discourage you from applying for a loan. What I want is to help raise your chances of securing a loan.
To do that, I’ve compiled a list of some of the most important things you should keep in mind before applying. Keep reading to learn how to take out a loan with better chances of getting approved!
1. Lenders May Pull Up Your Credit Score and History
When taking out a loan from a bank or credit union, your credit score will likely to go under scrutiny.
For one, because lenders need to gauge how credit-worthy you are and if it’s “safe” to lend you money. Second, they want to avoid lending money to high-risk borrowers.
It’s not personal, but they do have lending standards to consider. These standards align high-risk borrowers with higher chances of non-repayment. An applicant’s credit score and history let them “predict” how likely it is that they’ll get their money back.
That’s why traditional lenders have to pull up applicants’ credit scores and reports.
2. Traditional Lenders Aren’t Your Only Source of Loan
The good news is, you can still secure small loans even with a low credit score. We have alternative lenders to thank for that, as they usually have higher approval rates.
For starters, because they prioritize an applicant’s current financial status. To them, the current ability of a borrower to repay loans is more important than what happened in the past.
As such, present employment and salary are more important to these alternative lenders. That’s why many of these lenders don’t need to run a credit check on borrowers.
3. Determine How Much You Need vs How Much You Can Borrow
One of the most important steps on how to take a loan out is to first figure out how much you’ll apply for. You should first factor in how much you need before applying for the highest allowed loan amount.
This is important because you may end up paying more towards interest alone. These are nterest payments that you could have otherwise avoided.
Also, a lot can happen between now and your due date that could affect your ability to repay the loan. Either way, your total loan costs can skyrocket if you take out a loan that’s bigger than what you need.
That said, write down all the bills you need to pay and your other expenses. This may be rent or mortgage, utilities, gas or transportation, and groceries. If there’s any personal expense that you can’t do without, include that in your list too.
The keyword here is “can’t do without”, which means expenditures you can’t afford to delay. If you can put them off or they aren’t “urgent” matters, it may be best not to add them to the list.
Next, deduct these from your guaranteed income. The deficient amount should be your ideal loan amount.
Let’s say you only need a loan to cover this month’s rent for your 1-bedroom apartment. Let’s also use the most recent national median rental price of $959 as an example.
That’s the amount that you have an actual need for. You can round that up to $1,000, but it’s best to stick to that and borrow nothing more.
4. Lenders Have Different Requirements
What you need to take out a loan differs from one lender to another. Even if you don’t need to worry about credit scores and reports, you still need to be currently employed. If you’re self-employed, you need to provide proof, such as income statements and tax forms.
There are other requirements, but if you apply for a loan with an online lender, they won’t be hard to meet. Plus, you will go through the entire application procedure online. That means not dealing with long lines, no bumping into other people.
5. Short vs Long Repayment Terms
Lenders often have repayment terms of between 3 and 12 months (or longer) for small personal loans. These loans usually range from $500 to $2,500.
Shorter terms often have higher interest rates, but longer terms can cost more in the long run. Meaning, if you choose a loan with a shorter term, you’ll make higher monthly payments. However, this may also mean paying less towards interest.
If you choose a longer term, you will have more time to pay off the loan, so the monthly payments are lower. But depending on how long the term is, you may also end up paying more for interest. Also, you’ll be in debt longer.
6. Calculate How Much You Can Afford to Pay
Now that you know have an idea of repayment terms, you can now calculate how much loan you can afford to take out. Your computation should already include interest payments.
For example, your prospective lender offers you a $1,000 loan at a 10% APR. You have twelve months to repay the loan, including interest. That puts your total loan repayment at $1,100, but you have to pay $91.66 every month.
Is this an amount you won’t have any problem paying back? If you deduct this from your monthly finances, will you still be able to put away some money for savings? If yes, then that means you can afford to take out that specific loan.
7. Always Compare, Compare, Compare
This is one step you shouldn’t skip before taking out a loan. You should check the interest rates and terms offered by at least three lenders. This way, you can find out which one has reasonable rates and terms that you can afford.
Be sure to find out about other charges, such as pre-payment and late penalties. The most reputable lenders often allow borrowers to pay their loans in advance. At the same time, they understand that some borrowers can’t meet due dates, so they offer a grace period.
Keep All These in Mind Before You Take Out a Loan
There you have it, the most important things to remember before you apply for and take out a loan. So long as you don’t “forget” any of these, you can boost your chances of securing a loan that you can afford. Also, this will help you prevent borrowing more than what’s necessary.
Ready for more tips that can help you become financially-savvy? Then be sure to check out the rest of my guides to debt, credit, and wealth!