If you’re thinking about asking for your first personal loan, you must have specific facts on hand to give to prospective lenders and for your own knowledge. Some of these factors, such as your salary, you may know off the top of your head, but others, such as your credit score, you should research before applying for a loan. So, let’s take a look at what you should know before applying and why.
Credit History and Credit Score
A high credit score and good credit history demonstrate to lenders that you pay your debts on time. The higher your credit, the greater your chances of obtaining a loan with the best interest rate and repayment terms. The best loan provisions can save you hundreds of dollars over the life of the loan.
Check your credit score and report for mistakes that could lower your score before applying for a loan. If your credit isn’t in fantastic condition, the best thing to do is to delay applying for a loan as long as possible. Meanwhile, focus on improving your credit to save thousands of dollars and have a better chance of getting a loan. Some lenders are able to offer small short term loans to those with a poorer credit score, so this could be an option if you need the money, you know you can meet the repayment schedule, but your credit isn’t so good.
You do need to be certain that you can meet the repayments however, as not making your scheduled loan repayments on time could result in a negative action on your credit score, making it more difficult to obtain credit in the future (source).
Because your take-home salary impacts your ability to repay a loan, you’ll need to provide evidence of income with your application. If you’re an employee, you’ll need your employer’s pay stubs, W-2 forms, and/or a compensation letter. If you are a self-employed candidate, you will need to provide tax returns for the last two years, as well as invoices and receipts.
To decide whether you can afford monthly loan payments, you must first know how much money you bring home each month. Remember to examine all of your income sources, not just your primary ones. This could include a partner’s income, child support, and money earned from a second job or freelance work.
Other Debt Payments
Your income is just one component of the situation; you should also be aware of your monthly debt commitments. For example, if your monthly income is $5,000, but you pay $4,500 toward your obligations, you won’t be able to pay off a new loan. A loan application would almost certainly ask you to identify your other repayment responsibilities, which will most likely include your rent or mortgage payment and any current payments toward credit cards or other debts.
Liabilities And Assets
Another factor that a prospective lender may consider is your net worth, which is defined as your assets minus your obligations. Assets are items you possess that are valuable, such as investment accounts and real estate, while liabilities are financial commitments, such as student loan debt or a mortgage from Bank of America.
Fully understanding your net worth is also beneficial for your own knowledge. Determining your net worth and how this will fluctuate if you get the loan is an excellent way to keep track of your finances.
Why You Need The Money
The most important thing to consider before taking out a loan is why you need to borrow money in the first place. Borrowing money is a significant financial move that can either benefit or harm you, depending on how you handle it. Your house mortgage, for example, is the most significant debt you will ever take out. If you can afford a large down payment and the house is within (or below) your budget, it could be worth your while to take out this kind of loan. What about personal loans, though?
Many people use their personal loans to pay expenses or emergencies. Borrowing money to pay for things like medical expenses, a flooded basement, or a damaged vehicle is never a good idea; it’s always better to have money put aside for these things just in case. However, since around 70 percent of the population doesn’t have more than $1,000 in savings, it’s clear that sometimes a personal loan is the best option. If this is the case, you’ll need to consider whether a personal loan really is the right thing to do for you and your overall financial situation.
How Much You Can Afford To Pay Back
Now that you’ve decided why you need the money and that obtaining a loan is in your best financial interests, you must consider how much you can actually afford (and pay back).
The term afford is difficult to define. Simply because you can afford the monthly payment does not mean you can afford the loan. You need to look at the entire loan as a whole, thinking about how much money you can pay back and how much money you will need to pay back by the time the loan is done with. Even if you can afford the repayment, what money will this leave you with? If you can afford to pay for a car loan, but you wouldn’t be able to pay for car repairs because of it, then it’s not truly affordable.
How Much Do You Need?
Loans can sometimes be quite tempting. Although you know how much you need to purchase whatever you need to buy, if your credit is sound, you might be offered more money than you initially wanted. You might see that the monthly repayments are affordable, and that might set you off thinking about what you could do with this extra money you’re being ‘given’.
Of course, if you needed to borrow more for something else at a later date, it makes sense to get one loan with one payment and do whatever it is you want to do. However, if this additional money wasn’t ever something you had considered, then it’s better to step away. Only borrow what you know you need. You won’t want to run the risk of damaging your credit for something you don’t really need.