Holly Johnson* says a personal loan can be the answer to our dreams — or the start of our worst nightmares.
Deciding whether to take out a personal loan is a ‘personal’ decision, but it’s also one that’s rife with risk.
If you borrow money you cannot pay back, you can end up with all sorts of consequences.
This could include ruined credit, additional fees and interest charges, even bankruptcy.
That doesn’t mean personal loans are a bad deal all the time.
Any loan can be a valuable financial tool if used wisely and responsibly.
Still, it’s wise to consider when a personal loan would benefit you, when you should avoid borrowing money, and when a different financial product may be better.
Before you pull the trigger on a personal loan, you should make sure you understand how a loan could benefit you or hurt you.
Here are some signs this financial product may be perfect for your needs.
One of the biggest benefits of personal loans is the fact they offer a fixed repayment schedule and a fixed interest rate.
This means you’ll be able to agree to a set monthly payment ahead of time, and you’ll never be surprised by a larger-than-usual bill.
While you can use the funds from a personal loan to cover any expense you want, these loans are best for people who have a big expense they need time to pay off.
This could include surprise medical bills, a new motor for your car, or a roof you had no idea you would need to replace.
With a personal loan, you can borrow a set amount of money then pay it back over several years.
Just because you qualify for a personal loan, doesn’t mean you can afford it.
Before you take out a personal loan, you should use a loan calculator to find out your future monthly payment.
From there, you can take a look at your budget and expenses to see if the loan payment stretches you too thin.
If it does, you should probably hold off on getting a personal loan — at least for now.
While it’s possible to qualify for a personal loan if you have poor credit or a thin credit profile, you’ll pay a much higher interest rate for the privilege of borrowing.
If you have bad credit, you may want to put off your personal loan until you can take steps to boost your credit score.
Start by getting any late bills you have up to date and make sure you make all your other monthly payments on time.
Paying down debt and credit card balances can also have a marked effect on your credit.
If you need access to credit to improve your credit score, you can also consider a secured credit card or a credit builder loan.
One of the best uses of a personal loan comes into play when you have a lot of high-interest debt.
If you consolidate high-interest debt into a new personal loan with a lower, fixed interest rate, you’ll start saving money right off the bat.
Going from several payments to just one each month can also simplify your finances and make debt repayment that much easier to bear.
While any of the reasons above are good ones if you want to take out a personal loan, there are plenty of reasons to skip them.
If you’re struggling to make payments on credit cards, student loans, or other bills, chances are good borrowing more money will not help.
In fact, borrowing more cash just to stay on top of your expenses could lead to a debt spiral in a hurry.
If you’re truly struggling to keep the lights on as it is, it’s probably wise to take a holistic look at your finances before you borrow money.
Consider where you could cut to improve your cash flow and whether you need to switch to a bare bones budget for a while.
While there’s nothing wrong with borrowing money for university, a personal loan is rarely the best deal.
Most borrowers would be a lot better off taking out Government student loans since they offer lower fixed interest rates and protections like deferment and forbearance.
If you want to splurge for something expensive, borrowing money could leave you in a world of hurt.
A vacation may sound like something you won’t regret borrowing for.
However, paying off that trip for the next several years would surely change your tune.
We already mentioned how a personal loan can be used to consolidate high-interest debts into a better financial product.
However, this is mainly true when you have a lot of debt to refinance and need several years to pay it down.
If you want to remodel your home, a personal loan can absolutely work.
A personal loan could help you achieve myriad financial goals, but it could also cause as many problems as it solves.
Before you apply for a personal loan, take stock of your financial position and make sure you know what you’re getting into.
Personal loans can be valuable financial tools, but they can also lead to years of stress and debt.
*Holly Johnson is an award-winning personal finance writer and the author of Zero Down Your Debt. She shares her obsession with frugality, budgeting, and travel at ClubThrifty.com.
This article first appeared at www.thesimpledollar.com.
