When you’re looking to manage a big purchase, like medical expenses or home repairs, personal loans can look like a great deal. Unlike revolving credit (credit cards), they’re granted for a specific amount, and you can’t charge more on the account. The payments are broken up evenly over a period of time, much like a car loan. Interest rates are often significantly lower than credit cards.
But whenever you’re looking to get any kind of credit or loan, it’s important to look carefully at what you’re doing and plan ahead. Personal loans have some common traps that you need to watch out for.
Personal loans can also help you avoid the payday loan trap, which is one of the most dangerous credit methods for borrowers; payday loans are virtually designed to make sure that you’re never out of debt.
Add-On Policies
Applying for an unsecured personal loan is similar to applying for any loan. But in the same way that a car dealer may try to sell you on various services that aren’t really beneficial for the vehicle, a lender may offer you various policies that sound great, but aren’t – they just seem convenient, like an all-in-one package. The two most common add-on policies are life insurance and unemployment insurance.
Having life insurance is a good idea for any family; policies are generally inexpensive to pay into, and they prevent your family from needing to deal with significant costs in the event of your death. Depending on your plans, you can also set up life insurance so that it would help put your children through college, for example. But the life insurance that is sold at the end of an insurance is usually pretty bad.
Unemployment insurance sounds really tempting. The insurance says that if you lose your job during the time you’re paying off the loan, the policy will cover your payments while you get back on your feet. But consider: how likely are you to lose your job in the next year or so? What is the premium cost? In almost all situations, you’re better off putting that money in a savings account rather than paying the premium on an unemployment insurance policy.
Watch That Interest Rate
If you have good credit, your personal loan offerings will probably have much lower interest rates than the average credit card. But if your credit score is lower, you may see higher interest rates than what you’re already paying. This can also depend on the lender, so it’s always a good idea to compare multiple offers and see what you’re eligible for. If you can’t get a personal loan, or you can’t get one at a better rate than your current credit card balances (a common reason for seeing that high-interest rate) using something like the snowball method may be more effective. If you’re trying to manage medical costs, talk to the medical facility and see if they’re willing to set up a payment plan.
Some loan companies will tell you that they can offer you a loan no matter what your credit score is, or without checking your credit score. This is a huge sign that the interest rate will be sky-high, and that the company will be basically stealing your money.
Your credit score isn’t something to be afraid of. In fact, checking your credit score and credit report once a year is a good idea. Your score could be affected by charges that aren’t yours, late payments that didn’t happen, or other small issues that can be fixed. And once you know what your score is, you can see what steps you need to take to improve it.
Make Sure You Can Prepay
When you choose a personal loan, you want to make sure you have the option to prepay the loan – for example, doubling your payments to pay off the loan early, or putting your tax refund towards the loan’s remaining balance. A few lenders will still charge you a penalty for doing this. Most won’t, but make sure you have the option. If you just take the full term of the loan to pay it off, this won’t matter, but if you come into enough money to prepay the loan, you probably want to avoid paying that extra interest.
Choose Your Loan Company Carefully
You wouldn’t buy a mortgage from a company just because they sent you an email, and personal loans are no different. You need to make sure that your loan company is reputable and not out to steal your identity, charge you an absurd interest rate, or generally make your life awful.
There are many sites out there that curate loan offers and help you see which ones you might qualify for, such as Lending Tree, Credit Sesame, and others. Using a reputable site in this case will help you avoid the trap of choosing an unreputable lender.
Like many other credit options, personal loans can be a great way to get out of a debt trap or pay for a sudden expense that you didn’t anticipate. But as always, proceed with caution, and make sure you’re getting the best deal you possibly can.
