In the United States, more than a fifth (22%) of adults carried one or more types of personal loans in 2020. For these folks with personal loans, their average balance amounted to $16,458.
All those figures prove how popular personal loans are, especially for large purchases. In fact, that’s the number one reason consumers take out these loans. Many others use them to pay off other debts, while some use the funds to improve their homes.
With that said, if you’re in the market for a personal loan yourself, it’s best to know what your options are. This guide rounds up the most common personal loan types available today, so be sure to read on.
Secured Personal Loans
Secured personal loans require collateral, a valuable asset owned by the borrower. The collateral serves as a security for the lender if the borrower defaults or fails to pay back the loan. If a borrower defaults, the lender can seize the property and then sell it to recoup their losses.
A mortgage, which almost half of US adults carry, is one example of a secured loan. In this case, the collateral is the house itself financed by the mortgage loan.
With personal loans, though, the collateral may be a savings account. The lender locks in the total loan amount from within that savings account. If the borrower fails to pay back the loan, the lender can retrieve whatever the borrower still owes.
However, if the borrower repays the loan in full, the lender should unlock the account.
Unsecured Personal Loans
Approximately 19.1 million US consumers have an active unsecured personal loan. That makes these “signature loans” among the most common types of consumer loans.
One reason unsecured personal loans are popular is that they don’t require collateral. That makes them less risky for borrowers, as they won’t have to pledge an asset that they may lose. For this reason, some consumers consider them as the best personal loans.
Conversely, not requiring collateral makes these loans riskier for the lenders themselves. To compensate, personal loan lenders have more stringent requirements and higher interest rates. With that said, one of the key eligibility factors for these loans is a good credit score.
Co-sign Personal Loans
Co-sign, or co-signer loans are for borrowers who may not qualify on their own. A few examples are consumers who haven’t built enough credit history yet. They may also have insufficient income or creditworthiness to prove their reliability.
As such, a co-sign loan requires a credit-worthy co-signer alongside the principal borrower. The co-signer’s becomes liable to pay for the loan if the borrower fails to pay off the loan. For this reason, the co-signer usually must have a better credit history than the borrower.
Specific-Purpose Personal Loans
Specific-purpose personal loans are loans granted for a specific purpose. For example, some lenders may offer medical emergency cash loans. So, to qualify for such services, you may have to present proof of emergency hospital or medical bills.
Another example is a household appliance or electronics loan. You can apply for this type of personal loan if you need to buy, for example, a new fridge or a computer.
Debt Consolidation Loans
A debt consolidation loan is a loan that consolidates and pays off existing debts. Most people who take out such loans use them to pay off loans with higher interest rates.
Suppose you have an existing personal loan on top of your credit card balances. Your personal loan has a 20% annual percentage rate (APR), while your credit card charges a 15% APR. Their high APRs can make it difficult to pay back all your debts.
One reason you’d want to get a debt consolidation loan is that it may have a lower interest rate. For example, you may qualify for a debt consolidation loan with a 10% APR. That’s way better than what your personal lender or credit card company charges.
With a debt consolidation loan, you’d combine the existing debts you’d want to pay off. So, let’s say you still carry $20,000 on your personal loan and $30,000 on your credit cards. In this case, you can apply for a new debt consolidation loan amounting to $50,000.
Your new loan funds would then go toward paying off your existing debts but for a lower rate. This can then make it simpler for you to pay off your other high-rate debts. Moreover, it might be easier to repay your debts since the new loan comes with a structured payment plan.
Payday loans are low-amount, short-term, high-interest loans. They are small loans because, in some cases, governments place a strict cap on them. For example, the State of Kansas only permits payday lenders to issue loans not exceeding $500.
Payday loans are short-term loans since you usually need to pay them back after two to four weeks. That’s also another reason for their low maximum allowable amounts.
As for interest rates, payday loans have among the highest in the consumer lending sector. For example, in Texas, the typical APR for such loans is a staggering 664%. On the other hand, Ohio’s typical APR is much lower but still at a whopping 138%.
However, several US states have capped payday loan APRs at no more than 36%. These include Arkansas, Colorado, and Montana, to name a few.
Despite all that, payday loans are still popular, as they have relaxed requirements. In fact, most payday lenders market them for consumers with bad credit.
Moreover, most payday lenders approve loans on the same day of the application. They also grant the funds within a few hours (sometimes even under an hour) from approval. This is why some consumers who need access to emergency money opt to apply for such loans.
Be Smart When Choosing among These Types of Personal Loans
As you can see, there are many types of personal loans you may qualify for, so long as you are credit-worthy. If not, then you might want to consider a secured or a co-sign loan to boost your chances of approval.
The most important thing is to compare personal loan offers, especially their APRs. This is one way to ensure that your loan has a reasonable rate that you can afford.
Looking for more tips on smart budgeting for better financial health? Be sure to check out our site’s most recent blog posts then!