What is a personal loan and what can it be used for?

A personal loan is a type of loan in which money is borrowed from a credit union, online lender, or a bank that must be paid back in fixed monthly installments. These installments typically run from two to five years with a wide span of rates, usually 6 percent to 36 percent APR.

Why would someone want to take out a personal loan?

Rates for personal loans are typically much less than credit cards. And personal loans are versatile, there are a lot of different reasons people might want to take out a personal loan.

What can personal loans be used for?

  1. Consolidate high-interest debt. The most common use of personal loans is to consolidate debt, including credit cards. Multiple loans and credit cards, all with varying due dates and interest rates can cause financial confusion. By consolidating them all into one loan, you can simplify your bills and reduce your interest rates. This gives you a clear plan to pay off credit cards with a fixed monthly payment and an end date. And if you can take out a personal loan at a lower rate than your credit cards, you can save a lot of money in the long run.
  2. Improve your credit score. Consolidating credit cards into a personal loan has an added benefit of improving your credit score. How does this work? Your credit utilization ratio (the amount of credit card debt divided by total credit available) is a key factor in your credit score. Paying off your credit card bills, even though you still have the debt as a personal loan, increases the amount of credit you have available, and can boost your score. Secondly, paying your bill in a timely manner contributes to a higher score as well.
  3. Pay medical bills. With high deductible insurance plans becoming widespread, an unexpected medical expense can cause your finances to take a hit. And often a large percentage of dental expenses are not covered by insurance. Often your medical treatments can’t wait, but you can pay them with a personal loan, giving you more time to pay off your bill.
  4. Paying for unexpected expenses. Experts recommend having an emergency fund to cover unexpected expenses. But this can be hard to build-up and even if you have an emergency fund, it may not be enough to cover some of the unexpected things that life throws at you. Your car may need repairs, your washing machine may break down, or your roof might be leaky.
  5. Pay for a wedding. Weddings and other large events can be very expensive. Using a personal loan as opposed to credit cards, will save you money on interest rates and get you on track to paying off the bill at a faster rate.

Personal loans can be very useful when used responsibly. It’s still a monthly expense that needs to be repaid, so try to take out the minimum amount that you need. Also, it’s important to keep in mind what your monthly payments will be and make certain that you are prepared to pay the bill each month.