Personal loans offer an answer for people who want to borrow a substantial but manageable amount of money at a reasonable, fixed interest rate with a consistent monthly payment. In this guide, we provide a general overview of how personal loans work, what they are used for, and how they compare with other loan options.
Before considering whether a personal loan is right for you, you should understand what it is and how it works. Here are some of the basics:
What Is a Personal Loan?
A personal loan allows you to borrow money from a financial institution, such as a credit union or bank, for whatever reason you choose. Personal loans, also known as installment loans, usually have a short repayment period (fewer than five years) and a fixed interest rate.
How Do Personal Loans Differ from Other Loans?
Mortgages and home equity loans require a longer process to secure financing, and mortgages and auto loans must be used for specific purchases. Personal loans aren’t quite as complex and allow you to spend the funds however you choose.
Additionally, the interest rate on a personal loan is a little different than rates for mortgages or car loans. Home and car loans are secured by collateral (the house or the car), so their interest rates are generally lower than a personal loan rate. This is because if those loans go into default, the financial institution can seize the asset and recoup some of their losses. An unsecured personal loan is not backed by collateral. Instead, the rate you receive is based on your good credit and ability to repay.
Where Do You Get a Personal Loan?
Usually, you will visit a bank or credit union to apply for a personal loan. Online lenders and some credit card networks offer personal loans, too. Whichever route you choose, read the fine print carefully and remember that shopping around for the best terms is encouraged.
Credit unions are uniquely positioned to deliver customized service and a personal touch to your experience. Our interest rates are competitive, if not often among the best in the industry, and we focus on you as a member rather than just a customer. Even borrowing a small amount of money is a big decision, and we are there to help you through it.
We will look at your credit history when deciding whether to approve a personal loan. The minimum credit score to qualify for a loan can vary depending on the financial institution and the amount you borrow. If your credit report shows a history of making payments on time and that you are not in severe debt, you will be at an advantage for approval.
However, your credit score isn’t the only consideration when qualifying for a personal loan. We also determine if you can repay the loan based on how much money you bring in and how much you owe to other creditors (e.g., lenders, credit card companies).
We offer a fixed rate for personal loans. Monthly payments are computed at the beginning of the loan based on the fixed interest rate and are consistent over the life of the loan, making budgeting easier. If you borrowed $5,000 at a 6% interest rate with a 36-month term, your monthly payment would be $152.11, and you would pay $475.96 in interest over the lifetime of the loan. We have an online calculator that helps you calculate your payment. Or you can contact us, and we will run those numbers for you.
Some lenders will charge you a small origination fee to take out a personal loan, up to 8% of the loan value. 1st United does not charge this fee, making a personal loan a cost-effective option.
Payment Schedules and Rules
The term on our personal loans is capped at 60 months, but you can choose a loan with a shorter time frame. Borrowing the same amount of money with a longer loan term gives you smaller payments, but you will pay more interest.
You’re always allowed to pay off a personal loan early and save on interest, but some lenders will charge a prepayment penalty to do so. (1st United doesn’t.) If you are considering early payoff, look at your interest rate and other debts. If your rate is good, you may be better off sticking to the personal loan schedule and using that money to pay down or consolidate other debts.
Although you won’t lose your house or car for not paying an unsecured personal loan, you still want to avoid default. Your credit rating will take a big hit, making it difficult to secure other loans, possibly for several years. The loan could also be sent to a collection agency. In extreme cases, some lenders will file a lawsuit against you and have your wages garnished or liens placed against your property.
Personal loans are advantageous for people who need money but don’t want to go through obtaining a home equity loan or pile debt onto a higher-interest credit card. Depending on your situation, a personal loan might not be the best option. Here are some pros and cons:
Safe collateral: With an unsecured personal loan, you aren’t putting up a valuable asset as collateral. You never want to default on a loan, but if you experience an unexpected hardship and can’t afford to pay, you won’t be at immediate risk of losing your car or house.
Fixed payments: With the same payment every month and a fixed interest rate, you can more easily plan and manage your budget.
Moderate borrowing cap: We offer personal loans up to $25,000, providing a good amount of cash for your needs.
Limited borrowing cap: If you need more than $25,000 for major home repairs or another large expense, a personal loan won’t cover the amount, even if you can repay it.
Middling interest rates: A personal loan’s interest rate is usually higher than a home equity loan, home equity line of credit (HELOC), or car loan.
Short timeline: Although a 60-month term gets your personal loan paid off relatively quickly, that won’t help if you want more time to repay or lower monthly payments.
Personal loans can be a great source of cash for people with a good credit history and the ability to pay. However, they are not a license to spend. Borrowers who take out personal loans should carefully plan their budgets and put the funds they receive to good use. Here are some common ways people use personal loans:
Debt consolidation is a smart way to use a personal loan to your advantage. Offers for credit card balance transfers that promise a low rate usually revert to a higher rate after a certain period. Conversely, a personal loan can replace all your high-interest debt with a single payment at a manageable interest rate, saving you money and stress.
Other debts that can be consolidated into a personal loan include medical debt, car loans, and other higher-interest personal loans.
A personal loan is not an auto loan. They are structured differently, and a car loan is secured by using the vehicle as collateral. Also, you can borrow more with an auto loan and set a repayment term of six or seven years.
However, a personal loan is an option if you are buying:
A used car from out of state
A used car from a private owner
A boat or RV
An older or classic car that the lender doesn’t offer loans for
Personal loans can also help with:
Refinancing: If standard auto loan refinancing isn’t an option for you, a personal loan at a lower interest rate might work just as well.
Lease down payment: If you are considering a car lease, you might be required to put a certain amount of cash down at signing. Generally, the more you put down, the lower your monthly payment will be. You will need to figure out the math, but a personal loan could be a better deal to cover the down payment, even if you end up with two car payments per month.
Vehicle repair: If your car needs an expensive repair, a personal loan can help pay for it and keep your vehicle running for several more years.
Large home renovations are usually outside of the means of a typical personal loan, and you might be better off with a home equity loan or a HELOC. However, a personal loan can help pay for smaller projects or more urgent repairs.
Some home improvement providers, such as window companies, roofers, or plumbers, offer financing through a third party to get you to commit to ordering the work. Interest rates might not be as good, and promotional offers might have limits, so carefully read the fine print as you consider your options.
Weddings aren’t cheap. Sensibly budgeting for a wedding is challenging because you may not want to deplete your savings, and extra expenses always seem to pop up. A personal loan can ease your worries about paying for the wedding and let you focus on the planning.
A personal loan could also be a good option for that engagement ring you have been eyeing. You can keep the loan term short and save a little on interest.
The best-laid budgeting for your small business can be derailed by one burst pipe or, as many entrepreneurs found out, one pandemic lockdown.
A personal loan can help cover expenses, both planned and unplanned. Unlike standard business loans, personal loans are extended in your name rather than the business’ name, so you likely won’t be able to write it off. (Check with your tax advisor.) It’s often not a long-term solution, but it is an option if you need cash to keep the business running.
A personal loan also provides a means to get a small, at-home business off the ground. In this way, borrowing a few thousand dollars to buy a powerful work computer or invest in marketing is an investment in yourself.
Even with health insurance, a hefty medical expense or hospital stay can cause sticker shock when you get the bill. A personal loan can help cover one-time healthcare costs.
Personal loans are also helpful in paying for procedures that might not be covered by insurance but will still improve your or a family member’s quality of life. If you know the cost ahead of time for minor surgery, braces, wisdom teeth removal, hearing aids, or laser eye surgery, a personal loan lets you focus on the care rather than the expense.
A personal loan can also help with veterinary expenses if your pet needs costly surgery or care.
Personal loans aren’t intended to replace federal or private student loans, which often come with unique terms and better interest rates.
Personal loans can help with other educational expenses and debts, including:
A credit card offers something a personal loan simply can’t: convenience. Do you see something you want to buy immediately but don’t have the money to do so? Charge it. A personal loan is paid in a lump sum and takes time to process. A credit card is revolving credit and can be used as needed for a specific amount you need at a certain time.
However, with a credit card, interest compounds month after month until the balance is paid off. Personal loans aren’t meant for impulse shopping, but credit cards shouldn’t be, either.
Credit cards do have their benefits. If you have an urgent financial emergency, such as your car needing an expensive repair while you are on vacation, a credit card can provide a safety net, so long as you’re diligent about paying off the charge on time. But for most major purchases, it’s best to pre-plan how to pay. If borrowing is part of that plan, a personal loan is a much better option than a credit card.
Personal Loans vs. Personal Line of Credit
A personal line of credit is similar to a credit card in that it’s revolving credit with open-ended terms that you can draw funds from at any time. However, a personal line has more defined limits on how you use it, from how much you can borrow to how you must repay the loan.
Interest rates are variable, similar to credit card rates, and based on the current prime rate. We allow members to use a personal line of credit as overdraft protection for our checking accounts.
The maximum we offer for a personal loan is $25,000. If you need more than that, a home equity loan or HELOC permits you to draw up to 80% of your available equity and a maximum of $250,000. For larger needs, a personal loan simply can’t provide that kind of borrowing power.
Interest rates are generally lower with home equity loans and HELOCs. Of course, the trade-off is that your home is used as collateral, and if you default on the loan, you could lose your home. Plus, both home equity options require a more complex application and approval process, so you might have to wait weeks to access your funds.
The drawbacks of a home equity loan and a HELOC are relatively minor if you’re looking to borrow a large amount of money. If your financial needs aren’t as great, a personal loan may make more sense.
Another way to draw equity from your home is through a cash-out refinance. Basically, you replace your current mortgage with a new one and withdraw equity as a one-time lump sum. For example, if you owe $200,000 on a home that’s worth $300,000, you could use a cash-out refinance to borrow $225,000 and take $25,000 out in cash based on your available equity.
A cash-out refinance is often used for debt consolidation and home renovations. When interest rates are low and your credit is good, the refinance can be a better deal than both your existing mortgage and a personal loan combined. Based on the earlier example, you could borrow $225,000, consolidate higher-interest debt, get a mortgage with a better interest rate, and maybe even end up with a smaller monthly payment.
However, a cash-out refinance is a mortgage, which takes weeks to process, might include origination fees and other expenses (e.g., home inspection, title transfer), and requires careful planning. If your current mortgage’s interest rate is higher than the market rate, it's worth considering a refinance. If your interest rate is already good, but you need some cash, a personal loan is more convenient and may be a better deal in the long run.
Why You Should Get a Personal Loan Through a Credit Union
Credit unions and personal loans are a perfect match. We offer many advantages to borrowers, including:
Competitive interest rates.
Personal attention to your application.
A commitment to each member’s unique needs.
A live, local person to talk to if there is ever a problem with your loan.
At 1st United Credit Union, we are committed to our members and our community. We will work with you on your personal loan qualification and suggest alternatives if it is not your best choice for you. Contact us today to learn more.