Emergencies happen, from unexpected car repairs to pop-up medical bills. This is why financial experts suggest building up an emergency fund that’s specifically earmarked for these kinds of hiccups.”The general rule of thumb is to save three to six months’ of living expenses because if you have that money set aside when something happens, you won’t have to worry about it,” Clint Haynes, a Missouri-based certified financial planner, told MagnifyMoney.
Learning this lesson a little later in the game? Don’t sweat it. It’s more than possible to unlock quick cash when you’re in a pinch.
Enter signature loans (a.k.a. personal loans). This type of fast financing can come to the rescue when funds are tight and you need to see your way through a financial tough spot. (They’re also ideal for consolidating high-interest debt and saving big time in interest charges.)
Unlike secured loans that are collateralized by an asset like your car or your house, these unsecured loans are backed only by your signature. When in a financial bind, signature loans are fast, convenient, and can be used for virtually anything.
Because there’s no asset to back up the loan, a signature loan is generally harder to qualify for in comparison to a secured loan. Lenders are looking to protect themselves from borrowers who might default on their payments, so a strong credit score is a non-negotiable. This is also why signature loans generally come with higher interest rates; however, those rates are typically lower than on most credit cards.)
The application process itself isn’t quite as involved as applying for a secured loan. Once the funds are deposited into your bank account, a two- to five-year to repayment timeline is pretty standard.
Signature loans also have fixed interest rates, so they’ll never fluctuate. The same goes for your monthly payment — in other words, it’s an installment loan that you pay back every month. This is different from credit cards, which offer revolving lines of credit you can charge up and pay off as you go.
When you need money fast and don’t have sufficient cash reserves on hand, a signature loan is generally a cheaper alternative to racking up high-interest credit card debt — a serious wealth killer that can cripple your ability to save for other big-picture financial goals, like putting money away for retirement or saving for a down payment on a home.
“I’d look at [a signature loan] as a lender of last resort where you’re really stuck between a rock and a hard place,” said Haynes. “Your only options may be to take out a credit card that’s going to charge you a 20% to 25% APR, or a signature loan where you’ll hopefully get a more favorable interest rate in order to bridge the gap.”
Signature loans can also be a powerful tool for getting ahead of your debt once and for all. Let’s pretend you have $12,000 in debt spread across three different credit cards:
Amount | Interest rate | Monthly payment | Months in repayment | Total interest paid | |
---|---|---|---|---|---|
Debt #1 |
$4,000 |
22% |
$100 |
73 |
$3,275 |
Debt #2 |
$5,000 |
19% |
$200 |
33 |
$1,415 |
Debt #3 |
$3,000 |
23% |
$150 |
26 |
$819 |
At this rate, you’ll cough up over $5,500 in interest alone — that’s on top of the $12,000 you already owed! But look what happens if you pay off all this debt using a three-year personal loan with a 10% APR.
Amount | Interest rate | Monthly payment | Months in repayment | Total interest paid | |
---|---|---|---|---|---|
Personal loan |
$12,000 |
10% |
$387 |
36 |
$1,939 |
This option actually reduces your monthly payment from $450 to $387. The kicker? You’ll pay $3,570 less in interest over the life of the loan!
“You can often get a lower interest rate, which means every monthly payment makes a bigger dent in your loan balance,” Justin Pritchard, a Colorado-based certified financial planner, told MagnifyMoney. “Plus, there’s an end date, whereas credit cards can drag on forever if you only pay the minimum.”
A lot of moving parts come into play, but here are some general pros and cons to consider.
If this type of loan is on your radar, be prepared for lenders to pick through the following:
Think a signature loan sounds right for you? If so, it’s time to shop around and compare quotes so you can lock down the best deal. Here are the most common places to find lenders.
MagnifyMoney’s personal loan marketplace is a great place to start. Simply punch in how much you’re seeking, along with your credit score and zip code, and you’ll have instant estimates to browse through.
Prefer to work out the lending details in person? You may also be able to find a personal loan at your local bank.
Local credit unions should also be on your radar. Here’s what to consider:
Once you’ve got some personalized quotes in hand, it’s time to do some comparison shopping to make sure you get the very best deal.
Annual percentage rate (APR): The APR provides a clearer snapshot of how much this signature loan is going to cost you. It goes deeper than just the interest rate, taking into account fees and other one-time costs. When comparing quotes for signature loans, plug the numbers into MagnifyMoney’s Personal Loan Repayment Calculator to see how much you’ll pay in interest over the life of the loan.
Term length: A longer loan term translates to a lower monthly payment, which could provide some much-needed breathing room in your budget, but proceed with caution.
“You may end up paying quite a bit more in interest if you opt for a longer term,” warned Pritchard. “A little bit more pain in your monthly payment will result in less total interest and a lower cost of whatever you’re paying for.”
A $5,000 personal loan with a five-year repayment period and an 8% interest rate will cost you $101.38 a month. If you compress that timeline to three years, your monthly payment will only go up by nearly $56, but you’ll pay $442 less in total interest.
Fees: Again, some signature loans throw in origination fees to the tune of 0% to 6% — but there are other fees to look out for, as well. When comparing different quotes, read the fine print to see if there are any prepayment penalties. If you choose to eventually accelerate your payments to pay it off ahead of schedule, will you be penalized for it?
Signature loans are ideal for people who are up against some sort of unexpected financial emergency and don’t have the cash savings to cover it. This type of financing can also be a powerful debt consolidation tool.
When it comes to getting approved, your credit history, employment, and income are crucial. Gathering personalized quotes is as easy as surfing the web or popping by your local bank or credit union. No matter which option you choose, be sure to shop around to make sure you’re getting the best deal possible.
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Source: https://www.magnifymoney.com/blog/personal-loans/what-is-a-signature-loan/