What is a personal loan?
A personal loan is a form of personal credit, whereby lenders – from traditional banks to challengers banks – provide capital to borrowers. A personal loan can be referred to as an unsecured loan; this means that the funds lent to a borrower by the lender aren’t secured by assets.
With a personal loan, the borrower will agree to pay back the loaned amount over a fixed period of time in agreed monthly repayments. Interest will be added each month to the outstanding balance. This acts as the cost of the loan, so the lender makes money when lending.
Personal loans allow you to receive a lump sum of cash, into your bank account so you can make a purchase or consolidate your debts, while spreading the cost of the interest over a number of months.
Most personal loan terms last anywhere between one and seven years; the shorter the loan term, the less interest you’ll pay overall. However you will need to have a good or excellent credit history to be offered the best deals.
How much money can you get from a personal loan?
Most personal loans are between £1,000 and £25,000. However, when applying for a personal loan from your bank, you may be offered more. If you’ve been a loyal customer with a strong personal finance history, such as paying back debts on time and staying inside your overdraft limit, you might be offered more and the terms of the loan could be more favourable too.
If you are looking for a larger sum, you’ll find higher amounts with secured loans, where your assets usually a property, act as security for the value of the loan. Read our guide to understand the differences between secured and unsecured loans.
What can I use a personal loan for?
Personal loans are usually used for large purchases that are out of your everyday spending limits.
If you need to buy a new vehicle, because your current car is no longer fit for purpose for example, a personal loan may help you cover the large initial expenditure. Alternatively, a personal loan could also be used to help you fix and maintain a vehicle, when you need to keep it roadworthy to travel to your job or ferry your family around town.
Family holidays to sought-after destinations can be costly because they’re in such high demand. If you’re looking for a luxury holiday, a personal loan can finance your trip, allowing you to pay it off over the course of the following months.
A spot of home improvement can add thousands of pounds of value to your property. Homeowners often use personal loans to install new bathrooms and kitchens, as these are the areas that prospective homebuyers often focus on.
Consolidating your debts means taking out a loan to pay off your smaller debts from multiple lenders. You then have only one debt repayment to make: the loan.
Debt consolidation can reduce the amount of interest hanging over your head and simplify your repayments. However, you must consider the total cost of the loan. Extending the term and value of the loan could mean you pay more interest over the course of the loan through debt consolidation. See our guide to understanding debt consolidation for more information.
What do I need to think about before applying for a personal loan?
Before applying for a loan, there are a number of steps you should take to determine whether a personal loan is right for you and how much you’d like to borrow.
1. Check your credit score
When you apply for a loan, one of the first things a prospective lender will do is to run a credit check on your file. The three main credit reference agencies in the UK are Experian, Equifax and TransUnion. Lenders will request your file, which can differ between agencies, so it’s important you understand and address what is in each of them before lenders mark you down as someone they aren’t willing to lend to.
When applying for a loan you should ensure your credit score is as high as possible. We have a guide full of tips for rebuilding your credit history and improving your score to boost your chances of securing a loan.
You should also ensure that you understand the difference between hard and soft credit checks and when each of these are applied.
Hard credit checks are made by lenders when you request credit from them. The more hard credit checks on your file, the less likely a lender will consider you to be someone they might provide a loan to.
When applying for loans it’s important that you don’t request too many credit checks over a short period of time, or you can end up looking unreliable and desperate for finance. Spacing out hard checks can keep your score from falling. Try to limit your credit applications to only one in a three month period.
A soft credit check is made when a lender asks to look at your credit file. You can make as many soft credit checks as you like without it affecting your credit score.
Lenders can also look at your debt to income ratio to gauge your suitability for a loan. To do this they will compare your monthly income to the debt payments that you make. Clearing or reducing debts can make you a more attractive proposition to lenders.
2. Work out how much you’d like to borrow
Before you start comparing and applying for loans, make sure you understand clearly how much you need. Shop around for different prices for what you are looking to purchase (if you’re not taking out a loan to consolidate your debts), as you might find you need less capital than you thought if you can find a suitable item in a different price range.
By borrowing less you won’t be saddled with a long loan term and high interest rates. If you boost your credit score you’ll be able to access the best deals for the amount you require.
3. Gather the necessary documentation
To apply for a personal loan you will need to provide proof of identity and address.
- Proof of identity – passport, driver’s licence, identity card
- Proof of address – phone bill, utility bill (less than 3 months old)
4. Compare lenders
Compare personal loan deals below.
How do I compare personal loans?
If you believe a personal loan is the right option for you, after considering the pros and cons carefully and examining your other options, you’ll want to compare the different deals available from the lenders in the personal loan market.
At KnowYourMoney.co.uk we offer a free and unbiased personal loan comparison service through our personal loans comparison table. Our comparisons allow you to compare the pertinent details offered by each provider, including APR, available loan amounts, minimum to maximum possible loan terms, the interest rate per annum and the monthly payment you’ll be expected to pay.
What are the pros and cons of personal bank loans?
A personal loan isn’t necessarily the best solution to your financial circumstances. Alternative sources of capital might be preferable, including using your bank account overdraft facility, turning to a credit union, borrowing from friends and family or applying for secured loans and guarantor loans.
By evaluating the pros and cons of personal loans you can determine whether one might be right for you.
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