You’ve decided to get a personal loan and want to begin the loan application process.  Before you apply, start by researching lenders.  Understand the factors that may affect your personal loan rates.

Sourced from: www.moneycrashers.com

Many consumers are beginning to recognize the benefits of using personal loans as a lending vehicle.  The ease of application and speed of funding are two of those reasons.  However personal loan rates vary considerably by the lender and you should understand what accounts for all this variation.

Below are some of the most consequential factors.

1. Credit Score & Lender

Your creditworthiness is represented by your credit score and this is the most important factor in determining your personal loan rate.  If you do not know your current score, you can access a free credit report from our friends at Credit Sesame.

In addition to your credit score, there is also your ‘fit’ with the specific lender and the types of borrowers these lenders pursue. Some lenders cater primarily to prime and super-prime borrowers, others cater primarily to subprime borrowers, and some cater to a broad range of credit profiles.

Typically, lenders focused on the below-prime market have higher rate ranges than lenders focused solely on prime borrowers.  Regardless lenders rely on a credit score model to assess borrower creditworthiness.  The higher your credit score, the lower the rate you can expect.

2. Debt-to-Income Ratio

Your debt-to-income ratio is the sum of your debt obligations divided by your gross income. For example, if you have $3,000 per month in debt service payments and your gross monthly pay is $6,000, your debt-to-income ratio is 50%.

Most installment loans and credit lines, such as mortgage loans and credit cards, factor into your debt-to-income calculations.  Mortgage lenders prefer debt-to-income ratios at or below 43%. Personal loan providers’ standards vary, but lower ratios are always preferred.

3. Employment Status & Income

Lenders prefer borrowers with stable employment (generally 2+ years with the same employer, sometimes longer) and ample income. Actual minimum annual income requirements tend to be low – often in the neighborhood of $20,000.

Most personal loan providers that specialize in consumer loans prefer traditionally employed borrowers, as opposed to self-employed borrowers.

4. Education

The importance of educational attainment as a loan underwriting factor varies significantly. Some non-traditional lenders overweight factors like education and employment while underweighting traditional credit factors. These lenders reason that younger borrowers with professional degrees and good job prospects are well-positioned to assume new debt, even if their credit history is spotty at the moment.

5. Loan Term

Longer-term loans (five to seven years) tend to have higher rates than shorter-term loans (one to three years). Longer-term loans are also more expensive overall since interest accumulates for longer.

6. Loan Principal

High-principal loans may have higher rates than low-principal loans since they entail more risk for lenders. However, many lenders simply won’t fund high-principal loans for borrowers they deem unqualified. If you have fair or even good credit, as opposed to excellent credit, you may find your loan offers capped below where you’d like them to be.

7. Collateral

Secured loans – loans guaranteed by assets the borrower must forfeit in default – invariably have lower interest rates than unsecured loans, which are far riskier for lenders.

Most personal loans are unsecured, however. If you’re considering taking out a personal loan to cover an expense that may also be financed with a secured loan, investigate your secured options first.

8. Loan Purpose

By itself, your loan’s specified purpose doesn’t directly affect its rate. Much as your lender might like to control how you dispose of your loan’s proceeds, it doesn’t have that power. All it can do is take your word that you’re going to use your loan as you say you will.

That said, some lenders don’t advertise loans for specific purposes.  More importantly, a personal loan isn’t the best fit in every single circumstance. If you have excellent credit and a modest existing debt load, for instance, you may qualify for a 0% APR credit card balance transfer.   Under those circumstances, taking out a personal loan – even at, say, 6% or 8% APR – doesn’t make financial sense.

9. Benchmark Rates

Personal loan providers don’t set rates in a vacuum. Like other lenders, they adjust retail rates in response to changes in underlying benchmark rates, such as the LIBOR (London Interbank Offered Rate).

Benchmark interest rates turn on a variety of macro factors, such as inflation rates and expectations of economic growth. In general, interest rates rise in high-inflation, high-growth environments, and fall in low-inflation, low-growth environments.

In Conclusion

Every lender follows its own proprietary loan origination process, and seemingly trivial differences in borrower scoring models may produce noticeable changes to offered loan rates and terms.

As you hunt for the lowest possible personal loan rate, do yourself a favor and check your rates with as many different lenders as you can. You might be surprised to find a great deal hiding in plain sight.