How to get a low-interest personal loan?
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How to get a low-interest personal loan?

May 15, 2023
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Low-interest personal loans are offered by banks, credit unions and online lenders. They have competitive annual percentage rates (APRs) of less than 12 percent to help consumers get the cash they need without spending a fortune on interest.

The customer receives the loan proceeds in a lump sum and makes monthly payments over a set period, usually two to five years. Most lenders allow you to use the funds as you wish, although some impose spending restrictions.

If you are considering a low-interest personal loan, you will probably need good or excellent credit to qualify. There are also other loan guidelines to consider before applying to make sure you have the best chance of getting the funding.

How do interest rates on personal loans work?

You receive the loan amount in one lump sum and pay monthly installments over a set period, usually two to five years. The monthly payment includes both the principal amount borrowed and the interest rate.

Lenders evaluate several factors to determine whether you qualify for a low-interest personal loan, including your credit rating, employment status and debt level. However, your credit score plays the most important role, as it gives an idea of how well you have managed your past and present debts and the likelihood of default in the future.

FICO scores, which most lenders and creditors use to make lending decisions, range from 300 to 850-the higher the better. The most competitive rates are usually reserved for borrowers with excellent scores (between 720 and 850), since the risk of default is lower.

It is still possible to get a loan with a lower credit score, but it can be difficult to obtain and you can expect a higher interest rate and higher fees.

The average interest rate on a personal loan for people with excellent credit is between 10.73 percent and 12.5 percent. On the other hand, if your credit score is considered average (630 to 689), the average rate is between 17.8% and 19.9%.

Conditions for granting a personal loan

Each lending institution has its own eligibility requirements for personal loans. However, most lending institutions require that certain general guidelines be considered before applying:

  • Credit score. Do you meet the minimum creditworthiness threshold set by the lending institution? If your credit score is lower, you may pay higher interest or be denied financing.
  • Income. Is your income regular and verifiable? Lenders want to make sure you can afford to make monthly payments on time, and some require a minimum income to qualify for a personal loan.
  • Debt-to-income ratio (DTI). How much of your income goes toward monthly debts? Even if you have a regular source of income, too high a debt-to-income ratio can put a strain on your budget and cause you to fall behind on your monthly loans. Your debt-to-income ratio should not exceed 40 percent to have the best chance of getting a low-interest personal loan.

How do you qualify for a low-interest personal loan?

Some lenders offer online pre-qualification tools that allow you to see your chances of approval and estimated rate without affecting your credit score. If you use this option and are rejected or find that the offers are not as attractive as you had hoped, you are not entirely out of luck. The following steps will help you increase your chances of approval or get better terms before applying for a loan.

Improve your credit score

An excellent credit score gives you the best chance of getting a low interest rate on a personal loan. If your score is not at the desired level, check your credit report for any errors that negatively affect your credit score and quickly resort to removing them.

Also, update all overdue accounts and continue to make timely payments on all other accounts. You can pay off credit card balances to reduce your credit utilization rate or the amount of your current credit limits. It is also important to refrain from applying for new credit, as each credit application reduces your score by a few points.

Getting a cosigner

If your lending institution offers this option, consider applying for a loan on better terms with a cosigner. This person must have an excellent credit rating and a stable, verifiable source of income.

Keep in mind that account activity will appear on the cosigner's credit report. It is therefore essential to keep the loan current to avoid negative reports. But if you fail to comply with the loan agreement, your cosigner will be responsible for payments.

Working with a credit union

Credit unions are nonprofit organizations whose purpose is to provide banking solutions to their members. Their personal loan rates are often lower than those of traditional banks. According to the National Credit Union Administration, as of March 31, 2023, the national average rate for a 36-month fixed-rate personal loan was 10.02 and 10.75 for credit unions and banks, respectively.

Membership may be limited to people who work for a particular employer, are affiliated with a particular organization, or live in a particular area.

Some credit unions also grant membership to relatives of current members. However, because every credit union is different, you should examine all local options before applying for membership to ensure that you meet the minimum requirements.

Get a discount on automatic payments

If you already qualify for the lower rate offered by the creditor, consider signing up for automatic payments if the creditor offers a discount on automatic payments. Although the discount is usually around 0.25 percent, the savings can accumulate over time.

When signing up for automatic payments, be sure to allow for monthly spending in your budget to avoid overdraft fees, which can reduce the overall value of the loan.

What you need to know to find a low-interest personal loan

Once you understand how personal loan interest rates work and what most lenders require, the next step is to look for the best deal. Here's what you need to know when comparing lenders:

  • Interest and fees. Is the interest rate the lowest of those selected? Are there any opening, underwriting or early repayment fees? How does the APR (interest and fees) compare to the competition?
  • Loan terms. Does the lending institution offer different loan terms? If you can afford to pay your monthly installments over a shorter period, the lending institution may offer you a lower interest rate. If you need a lower monthly installment, a longer term is ideal.
  • Online pre-qualification. Is it possible to get pre-qualified online without damaging your credit rating? These tools make it easier to find information and avoid formally applying to lenders that are not a good fit for you.
  • Incentives for lenders. Are there incentives for referrals? Can you get a reduced rate if you sign up for automatic payments? Does the lending institution give you free access to your credit score?

An excellent credit rating, a regular income, and a low level of debt are ideal conditions for a low-interest personal loan. However, if your finances are not in good shape, before applying for a personal loan consider taking a step back to improve your credit score and reduce your utilization rate.

If you cannot wait and need funds as soon as possible, you can also try applying with a cosigner or take advantage of an autopsy discount to get a better deal. The most important thing is to look for the best low-interest personal loan for your credit situation, do a pre-qualification if possible, and be sure to compare options before signing on the dotted line.

Irene Scott
Written by
Irene Scott
I’ve worked for more than 5 years as a Credit Analyst and more than 4 years as an Internal Auditor for one of the leading global financial institutions. I have been exposed to the credit review process, various banking products, financial security topics, corporate governance, operational risk, and the internal control framework of a complex, multinational organization.