Depending on your financial needs, a personal loan can be an attractive option. Unlike other forms of debt, personal loans offer you flexibility to use as you want. Whether you are looking to pay down credit card debt, pay for a dental treatment or replace a broken water heater, you can use the loan for whatever you need. That versatility can be very appealing. But a personal loan can be risky if you are not careful, with high interest rates, fees and penalties.
Before taking out a loan, make sure you understand what you are getting into and common mistakes people make. Below are six personal loan blunders that could cost you a lot of money:
Making an Impulse Decision: When you are in need of money, it can be tempting to leap for the first option that presents itself and a personal loan often seems like the easiest option. But depending on your situation, it might not be the right avenue for you. For example, if you are looking to pay off credit card debt, a zero percent balance transfer may be more cost effective and less risky than a personal loan. If you are disciplined and have a repayment plan, you can end up saving yourself a lot of money than if you had a personal loan with a higher interest rate. Consider all of your options before signing up for a personal loan; there may be other ways to handle your needs without taking on more debt.
Neglecting Your Credit Score: Your credit score plays a major role in getting a personal loan. The average interest rate for a personal loan is over 11 percent, but if you have excellent credit, you could qualify for a loan with an interest rate as low as five percent. That difference can save you hundreds, if not thousands, over the course of your loan. Be aware of your credit score so you know what options are available to you. If you have good credit, you can shop around with different lenders to get the best rate. If your credit is not great, work on improving your score to get better offers.
Never miss a local story.
Taking the First Offer: There are many different financial services companies that offer personal loans, from traditional banks and credit unions to online companies and peer-to-peer lending firms. Shop around to get multiple offers; make sure you consider all of the factors, including origination fees, prepayment penalties and interest rates to ensure you’re comparing apples to apples and get the best offer. Start with a bank or credit union where you already do business, then compare with online lenders to see what is the most competitive option.
Embellishing Your Application: When you know a better interest rate is possible, you might feel compelled to boost your application by rounding up the numbers a little. But not only is that risky, but it is also illegal. While lenders may not find out right away, they can cancel your loan at any time if they discover that your application was incorrect. Additionally, the lender can put the loan into default, marking it as a misrepresentation and ruining your credit.
Forgetting Your Goals: When you take out a personal loan, you likely have good intentions about using it to pay down debt or pay for a necessary car repair. But once the money is in hand, it’s all too easy to forget about its original purpose when life gets in the way. If you do not adjust your spending habits and budget, a personal loan will only worsen your problem and add to your debt. Before taking on a loan, review your budget and identify areas where you can cut corners. Whether it’s eliminating eating out, going down to one car for the family or selling items you have in the house, come up with a concrete plan for paying back your debt. Otherwise, your debt can balloon, and a personal loan will just exacerbate the issue.
Thinking of a Loan As Easy Money: Because personal loans are unsecured, meaning they are not tied to your house or other property as collateral, you might think of a loan as easy, consequence-free money. But there are significant penalties that can occur if you miss your monthly bill. If you default on your payments, the lender can take action against you. They can charge high penalties and late fees, and if you still do not make payments, can send your debt to collections, which will destroy your credit history.
When you are trying to get your finances in order or are attempting to come up with the funds to handle an unexpected emergency, a personal loan can seem like the perfect option. But if you are not careful, taking out a personal loan can be a costly blunder.
Whether it’s not reviewing other financial options or not sticking to a budget, these six common mistakes can end up costing you hundreds or thousands of dollars. Before signing to take on a loan, understand all of your options, build a repayment plan and read the fine print to make sure you do not get stuck with a hefty loan balance and crushing interest rates. With due diligence, you can take out a personal loan and use it wisely to manage your debt.
LendEDU is a content partner of the Centre Daily Times providing personal finance news, expert commentary and coverage.