Taking on a personal loan can be a huge commitment that changes how you think about your short-term finances. If you are applying for a personal loan for the first time, then there are some things you should understand before applying that can help you understand your commitment. It’s important not to take on any debt you can’t afford, so it’s essential to understand these things before starting.
Here are the five things you should consider before applying for a personal loan:
Know Your Current Credit History
A big factor in your getting approved for a personal loan is going to be in the details of your credit history. Many lenders won’t give you a personal loan without a cosigner if you have filed for bankruptcy within the past few years, for example. Even if you haven’t had something as serious as bankruptcy, the lender you choose may have questions that you need to answer that show up on your credit history.
To fully prepare for the loan it’s important you understand your own credit history so that you can properly answer any questions that arise. Not having a good reason for any potential flags in your credit history can reflect poorly on your potential as a borrower. Plus, if you have more serious matters in your history, it’s important to know if it automatically disqualifies you from the loan.
Calculate Your Debt-to-Income Ratio
Another major factor in getting your personal loan approved and determining how much you’ll receive is your debt-to-income ratio. This is the calculation of how much of your income is taken up by your current debt or payment obligations. If your ratio is too high, it damages your ability to make loan payments.
The debt-to-income ratio includes adding your debt payments together and dividing that number by your monthly income. For example, if you have $3,000 in debt payments tand a total income of $10,000, your debt-to-income ratio is 30%. While you should discuss the right ratio for your situation, many experts recommend not being higher than around 40-43% to take out a loan and much less when factoring in how much you can responsibly borrow.
Decide What Monthly Payments You Can Afford
Before committing to a loan, and the payments that come with that loan, it’s important to know what you can truly afford. You should have a number (for both the total loan amount and the monthly payment that you’ll make) that you can’t go over in order to feel confident that you can make the debt payments, even if something bad happens for a few months like you end up losing your job.
This number can be determined by taking a close look at your budget and understanding how much you pay while still being able to have money each month for unexpected expenses. You never want to budget every penny with a debt payment because there needs to be a little bit of breathing room to account for the unexpected. This is due to the fact that missing a single payment on a personal loan can damage your credit and put your personal assets at risk.
Know How Much Money You Need
Before applying for a loan, you should fully understand your reasoning for borrowing money and the exact amount you need. For example, if you’re borrowing to remodel your home, get quotes from contractors before applying. You don’t want to pay interest in more money than you actually need.
Paying that extra interest could cost you hundreds or even thousands of dollars more over the life of the loan. The amount you need and your monthly payment on the loan are two things that go hand-in-hand. If you can’t afford the payment, you may need to find another solution to go with your loan. Likewise, you shouldn’t borrow more just because you can afford the payment.
Understand Your Liability for the Loan
Before taking out a personal loan, it’s very important to understand what you’re getting yourself into. With virtually every personal loan, you will sign what is known as a personal guarantee. This means that you are agreeing to repay the loan in full. If you are unable to, your personal assets could be at risk to make the lender whole again.
Before you take out a personal loan, consider that your inability to pay it back could result in a loss. For many, this means a loss of a house or being forced to sell. It’s important to weigh what that guarantee could mean for your own personal assets.
it’s important to understand how personal loans work, their risks, and how much you can afford to repay. The more confident you are in these things, the more likely you are to make a sound financial decision.
When you’re ready to take out a personal loan, Empeople is there to help you better navigate the process. Our loan specialists can help sort your situation out and get approved for a loan that fits you.