More than 27 million U.S. consumers have personal loans, with the average balance climbing to an estimated $7,599 by 2017, according to credit bureau TransUnion. They’re borrowing to fund sudden medical visits and car repairs, cover wedding expenses, and home improvement projects or to consolidate existing debt when savings aren’t enough.
Those loans are only getting easier to get. Banks and credit unions offer them online, competing with a slew of digital-only startups.
Here’s a guide to understanding online personal loans and picking those with the best rates.
Pros and cons
Personal loans have some inherent advantages over other forms of debt. You’re borrowing a fixed amount of money for a specific amount of time. Interest rates are frequently lower and payback windows are longer compared to credit cards.
Even more benefits exist online. Without the overhead cost of running brick-and-mortar branches, online lenders can afford to offer even more appealing rates and an easy application process. Funds are transferred electronically to approved borrowers within a few business days.
And online loans are often more flexible, sometimes avoiding origination fees, tacking on financial counseling and delaying payment schedules when borrowers lose their jobs.
But, as with any advertised loan, teaser rates generally apply only for applicants with exceptional credit. And because personal loans tend to be unsecured, without the buffer of collateral, rates are usually higher than home equity loans.
Online lenders such as Earnest, Upstart, and Lightstream look to other qualities beyond credit score, such as income, grade point average, and future earning potential. Several have no minimum credit history requirement.
Before applying, make sure your 401k plan is well-funded. Try to diversify your debt among multiple sources. Spruce up your LinkedIn profile. These are all factors that might come into play in your application.
Even borrowers on the lower end of the FICO spectrum get a shot online. Lenders such as Avant will propose APRs up to 35.99%—at which point most states cap interest so that loans are more likely to actually be repaid.
How to get lower rates
Interest rates for one-year personal loans are plunging. A decade ago, they were higher than 12%, according to the Federal Reserve. Five years ago, they averaged 10.88%. This summer, they were down to 9.65%.
Compare that to 13.35% for credit card rates.
But there are ways to get that percentage even lower. And the key is credit.
Borrowers with a high FICO credit score can snag the lowest rates for personal loans, along with waived fees and higher loan limits. Superb scores above 720 will be in contention for the rare rates that start at 3%, while good scores in the 680 to 719 range will have access to slightly higher rates.
Is your credit more average, say 630 to 679? You’re likely looking at a 10% rate at best. Hovering around a 600 score? You’re lucky if your rate is below 20%.
Shop among multiple lenders for the best package of rates, fees, and payment options.
And get your credit in order. Before applying for a personal loan, pay off as much of your credit cards and other debt as soon as possible to boost your debt-to-income and debt utilization ratios. Or try offering property as collateral or piggyback off a cosigner with better credit. Longer credit histories and steady income can also help bring rates down.
Lenders also like high incomes, so try applying after you land a raise or bonus. Ask about rate discounts for signing up for automatic payments. And if you can afford higher monthly payments, pitch a proposal that involves a shorter loan term.
And don’t limit yourself to digital-only lenders. Banks and credit unions are increasingly issuing personal loans online and often extend competitive rates to trusted members. Banks are for-profit corporations beholden to private investors, while credit unions are nonprofits, which often makes the latter more inclined to go easy on the interest. In New Jersey, for example, the Greater Alliance credit union has an online application for personal loans of up to $20,000 at fixed rates as low as 4.74% for 48 months.
How much can you get?
This depends on the lender. Sofi, for example, offers loans between $5,000 and $100,000. The company’s loans feature 5.95% to 14.24% fixed-rate APRs, don’t have origination fees and allow borrowers to attend membership dinners and happy hours with their peers.
Some lenders will offer loans as small as $1,000, though they’re less common because they’re not as profitable.
Many borrowers turn to online personal loans when struggling to deal with other forms of debt.
Prosper and LendingClub are often considered the elder statesmen of FinTech lenders, known for facilitating competitive rates and higher loan amounts. The peer-to-peer platforms link borrowers with investors who fund loans and determine rates based on their risk appetite.
LendingClub, which went public in 2014, had issued nearly $21 billion in loans as of June, with 60% of borrowers using the funds to refinance existing loans or pay off their credit cards.
When to use a credit card instead
When borrowing money for a short-term expense—say, an appliance you can’t afford immediately with cash but can clear relatively quickly—a credit card might be a better route than a personal loan. Some balance transfer cards offer 0% APR introductory rates that hold off interest charges for a year or 18 months. If you can pay off the balance within that time frame, the debt is ultimately cheaper in this form.
Personal loans are best used for more substantial spending that takes longer to pay off, such as a business launch, adoption, wedding or a debt consolidation effort. Online lenders, such as Payoff, specifically target customers trying to centralize what they owe on credit cards.
Notes of caution
Always vet online lenders by checking with the Federal Trade Commission for evidence of scams. And avoid the extreme, occasionally triple-digit APRs offered by payday loan outfits, which dangle funds without a credit check.
When considering a personal loan, look out for prepayment or early exit penalties that are charged when the balance is paid off before a predetermined date. And many online lenders request payments through automatic withdrawals from checking accounts—so set up a low balance alert with your bank to avoid accidental overdraft charges.
Check out some this list of some of the top personal loans available, many of which are online.