Personal loans are a relatively simple type of loan, but there are still a lot of terms and fine print to review. Here are 16 terms that are directly related to what lenders consider and how personal loans work.
Annual Percentage Rate (APR)
An annual percentage rate (APR) represents the annualized cost of borrowing money. Personal loan APRs include the loan's interest rate and required fees, such as an origination fee. Comparing loan offers' APRs can help you determine which offer will cost you less.
Borrower
The borrower is the person who applies for a loan, accepts a loan offer and receives the loan's proceeds. They are responsible for repaying the personal loan based on the terms outlined in the loan agreement.
Cosigner
A cosigner is someone who agrees to pay back the loan if the primary borrower doesn't make payments. A lender may ask you to add a creditworthy cosigner to your application if you don't qualify on your own because of your credit or income.
Adding a cosigner with good credit can also sometimes result in a lower interest rate. Because of the responsibility and obligation involved, cosigners are often a borrower's close family member or friend.
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Credit Score
A credit score is a numerical representation of your credit risk based on information from one of your credit reports. Personal loan lenders will often check your credit report and credit score when reviewing your loan application and use the information to help determine if you qualify and your loan offer's details. Many lenders require a credit score around 580 or higher, but a few lenders offer personal loans to people with lower scores.
Learn more >> What Credit Score Is Needed for a Personal Loan?
Credit Report
A credit report is a record of your history with various types of credit accounts. Experian, TransUnion and Equifax are the three main consumer credit bureaus that organize information and create credit reports. You can review a copy of your Experian credit report online for free and use your account to get free monthly credit reports, real-time notifications about changes in your report and FICO® Score☉ tracking.
Debt Consolidation
Debt consolidation is the process of combining several debts into one. Consolidation might lower your total monthly payments and can make managing your debts easier as you'll have fewer monthly payments. Many people take out a personal loan to pay off credit card balances that have a higher interest rate, which can also save them money because less interest accrues each month.
Fixed Interest vs. Variable Interest
Loans may have fixed or variable interest rates. Variable-rate loans often start with a lower interest rate, but the rate could automatically rise or fall based on changes in a benchmark rate. Fixed-rate loans may have a slightly higher rate, but it stays the same for the life of the loan. In either case, the initial rate is advertised as an APR and can also depend on the lender, your credit, the loan amount and the repayment term you choose.
Learn more >> How Do Personal Loan Interest Rates Work?
Hard Inquiry vs. Soft Inquiry
Hard and soft inquiries are records of when someone checked your credit report and they can stay on your credit report for up to two years. A hard inquiry often results from a credit application, and hard inquiries might hurt your credit scores a little. Soft inquiries can result from other situations, such as when you check your own credit or a lender checks your credit without offering a loan, and they don't affect your credit scores.
Loan Amortization
Amortization is the process of paying down a personal loan with fixed payments that get split between the loan's principal balance and interest. Your loan's amortization schedule describes how much you'll pay each month, when you'll make the payment and how that payment will be divided up. Personal loans often have a fixed interest rate, so the monthly payments stay the same throughout the life of the loan.
Loan Origination Fee
A loan origination fee is an upfront fee that you may need to pay when you take out a personal loan. It's often a percentage of the loan amount and deducted from the loan disbursement. For example, if you take out a $5,000 loan that has a 5% origination fee ($250), you'll receive $4,750 and have to repay the full $5,000 plus interest.
Origination fees can vary depending on the lender, your credit and the specifics of the loan. If you have good credit, you may qualify for a loan without any upfront fees. Otherwise, the fee may range from 1% to over 10%.
Learn more >> 5 Personal Loan Fees to Watch Out For
Prepayment Penalty
Most personal loan lenders don't charge a prepayment penalty, which is an additional cost for repaying your loan early. But it's worth reviewing the loan agreement to be sure. If the lender does charge a prepayment penalty, it may be a flat fee, a percentage of the remaining loan balance or based on how much interest would have accrued over a specific period.
Prequalification
A personal loan prequalification can help tell you whether you'll likely get approved for a loan without affecting your credit score. The lender may ask some basic questions, such as how you plan to use the loan, how much you want to borrow and your income. They often also review your credit report, which results in a soft credit inquiry.
If you're prequalified there's a good chance—but not a guarantee—that you will get approved for the loan. If you want to continue, you may need to complete the application and agree to a hard credit check, which can affect your credit scores.
Principal
Your loan's principal is the amount of money you borrowed and still have to repay—not including interest. When you make payments, a portion goes to pay off the interest that accrued since your last payment, and the remainder pays down your principal balance.
For example, if you borrowed $10,000 and have paid off $2,500 so far, then your principal balance is now $7,500. If you make extra payments toward your principal balance, you'll repay the loan sooner and pay less interest overall.
Promissory Note
A promissory note is the written agreement you sign where you promise to repay the loan. The note may spell out the specific terms of the agreement, such as the loan's interest rate, monthly payment, repayment term and potential fees or penalties.
Term
The loan's repayment term is how long you'll have to repay the loan. You can often choose from several personal loan offers with varying terms, such as 36 or 60 months. And some lenders may offer additional choices with shorter or longer terms.
A longer term will result in lower monthly payments as you're taking more time to repay the debt. However, it can also lead to paying more interest overall. A shorter term can save you money as you'll pay off the loan sooner, and because lenders may offer you a lower interest rate on a shorter-term loan.
Unsecured Loans vs. Secured Loans
An unsecured loan is a loan that doesn't require collateral—the lender is giving you money based on your promise to repay. As a result, your eligibility, loan amount and terms are largely based on your credit history, income and existing debt.
In contrast, a secured loan requires you to offer an asset as collateral that the lender can take if you stop repaying the loan. Auto loans and mortgages are examples of secured loans. With a secured personal loan, you might use physical assets, investments or cash that's locked in a certificate of deposit (CD) as collateral.
Learn more >> What Can Be Used as Collateral for a Personal Loan?
When Are Personal Loans a Good Idea?
You can take out a personal loan to pay for almost anything, but that doesn't mean it's always a good idea. Personal loans may have high interest rates and fees if you have bad credit. And, even if you can get approved for a relatively low-rate loan, other options are sometimes better.
Here are some good reasons to get a personal loan:
- To consolidate higher-rate debt: Consolidating other debts and credit card balances with a personal loan might help you save money on interest and streamline your personal finances. Alternatively, look into using a balance transfer card that offers an introductory 0% APR on balance transfers.
- For emergency expenses: You might be able to quickly get money from an online lender and can use the funds for various emergency expenses, such as auto repairs or medical bills.
- For home maintenance or improvements: Some lenders offer large personal loans that can be helpful if you have maintenance or improvement projects. However, a home equity loan or a home equity line of credit (HELOC) may be a better option because they tend to have lower rates. Also, the interest may be tax deductible if you use the funds from a home equity loan or HELOC for certain home improvement projects.
Compare Personal Loan Offers Based on Your Credit
If you're looking for a personal loan, try to prequalify with several lenders and compare your loan offers before signing a promissory note. Rather than going lender by lender, you can use the same Experian account that gives you access to your credit reports and FICO® Scores for free to compare personal loan offers based on your unique credit profile.