Personal loans are just that: personal.
This means that when you take out a personal loan from a lender, the lender doesn’t get to tell you what to use your funds for. Many people take out personal loans to pay for short-term goals such as dream weddings or vacations, but most financial experts advise against this.
Though the options are endless, here is a short list of things personal loans are commonly used for:
- Consolidating credit card debt
- Medical bills
- Home repair
- Automobile maintenance
- Moving expenses
- Funeral expenses
- Tiny homes (see here)
Though there are many personal loan lenders out there, a few stand head-and-shoulders above the rest. We will highlight these lenders and their offerings below.
As opposed to credit cards, which allow a borrower to spend a little at time and gradually build up and pay down a balance, personal loans are typically loans where borrowers take out thousands of dollars and the funds are borrowed in one lump sum. This can be an unhealthy financial move unless there’s a true need or a smart purpose behind the decision to borrow.
Personal loans are just about the most flexible type of loan a borrower can get. This is because personal loans are extended to individuals based upon their creditworthiness and not based upon securing any underlying collateral.
When you take out a mortgage, your home is your collateral. Should you stop repaying your loan, the lender can foreclose on the home and resell it to pay down the remaining balance on your mortgage.
The same concept applies to auto loans (including smaller vehicles like ATV loans) which are secured by the vehicle they were used to purchase. An auto loan will always secure the vehicle as collateral, and if you cease to make your payments the lender can repossess it and resell it at auction.
Mortgages can only be used for homes and auto loans can only be used for vehicles, just like student loans can only be used for school-related expenses and small business loans can only be used to help a business.
But personal loans can be used for anything, and a borrower doesn’t need to tell the lender what they intend to do with the money.
What Personal Loans Are Used For & What to Consider
Personal loans are often used for unexpected expenses such as to pay medical bills or have dental work done, for “wants” such as traveling or large weddings, or for practical purposes such as home maintenance or home improvement projects. They are the most flexible because they are extended to an individual borrower but not tied to any particular purchase or purpose.
However, this doesn’t mean that you should run out and get a personal loan – at least, not without a good reason to do so. Many of these types of loans are taken out and used rashly, and regretted later. There are many cons to personal loans.
While it is possible to get personal loans with very competitive interest rates, it will depend heavily upon the borrower’s credit score. That means high interest personal loans are out there, even ones with predatory interest rates and aggressive repayment terms. It’s important to carefully examine not just the interest rate that’s being offered, but any hidden fees or late fees as well.
Remember that while longer repayment plans will result in lower monthly payments, in the end you’ll pay significantly more in interest because you’ll have the loan for a longer period of time.
Wants vs. Needs
Financial advisers agree that “wants” should generally be saved up for in cash, while “needs” oftentimes can’t wait that long. If you’re taking out a personal loan to pay for required or preventative medical treatment, including dental work, that’s a great reason to take out a personal loan. There’s simply no putting a price on health. And one of the best reasons to take out a personal loan – one of the only reasons almost universally touted by financial advisers – is debt consolidation.
Consolidating Credit Card Debt
The average American household carries nearly $8,000 of credit card debt, with interest rates that sometimes soar past 20% APR. Anyone with significant credit card debt would be well-advised to seek out the possibility of using a lower interest personal loan for debt consolidation, assuming they can get one with an interest rate that will save them money over the average interest rate among all consolidated credit cards.
But be aware that personal loans are likely to have shorter and more aggressive repayment schedules, and that instead of making several credit card payments throughout each month you will need to make one larger payment once a month. It may help to space out smaller payments that coincide with biweekly paychecks, in order to avoid hefty late fees.
There are many good reasons, ultimately, to take out a personal loan – as many as there are bad ones. They can be used for virtually any expense life throws at you, and are sometimes a necessary stopgap when student loans or small business loans fall short and extra funds are needed. However, they must be used both smartly and sparingly, and should not be used to fund life’s many “wants.” Whatever your purpose for taking out a personal loan, be sure to compare multiple loan offers and look at all the costs of the loan, including any fees.