Are Long-Term Personal Loans Ever a Good Idea?
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Posted — UpdatedIn this review, we’ll cover:
What is a long-term loan?
Fees and rates for personal loans
When a long-term personal loan makes sense
When a long-term personal loan doesn’t make sense
Getting a long-term personal loan
Alternatives to a long-term personal loan
The pros and cons of long-term personal loans
The bottom line
What is a long-term loan?
Personal loans are doled out by lenders and, unlike credit cards, are not revolving lines of credit. When we say “long-term” personal loans, we’re referring to loans that stretch beyond the one-year mark. Some may last only 12 months, while others can take a decade or more to pay off.
On the one hand, the fixed payment keeps the finish line in sight. Credit cards, on the other hand, give you the oh-so-tempting option of just paying the minimum, which stretches out the life of the loan, resulting in you paying more in interest over the long term. On the flip side, if you stumble upon financial hard times, having the ability to make lower monthly payments can be a godsend.
That said, long-term personal loans can be used for just about anything — from consolidating debt to seeing you through a financial emergency. Since the money is typically deposited straight into your bank account, you can use it however you wish. Of course, they don’t come without some strings attached.
Let’s break down the fees and rates for personal loans
For starters, personal loans are considered unsecured debt.
“Unlike your mortgage or an auto loan where you’re leveraging an asset (your home or your car) as collateral, personal loans are attached to no such security,” Pamela Capalad, certified financial planner and founder of Brunch & Budget, tells MagnifyMoney.
“As such, lenders understandably see them as being inherently riskier,” she added.“This is precisely why you can expect strict repayment terms and potentially higher interest rates.”
The APR may not stand alone. In some cases, you could be hit with an origination fee to the tune of 1% to 6%. Some companies will also try and sell you insurance or other expensive, unnecessary products with these loans, says Lynn Ballou, certified financial planner and CFP Board ambassador.
“And if they’ve front-loaded that loan with extra interest or charged you an origination fee, that’s actually costing you quite a bit more than if you’d just looked for a less expensive option,” she added.
In other words, borrowers beware. Before signing on the dotted line, be sure to read carefully through the terms and fees. Ballou then suggests running the numbers through an independent loan calculator to make sure it’s actually a good deal for you. After factoring in the interest rate and potentially an origination fee, would it be less expensive to go with a different financing option? (We’ll explore this shortly.) Also, is the monthly payment within your budget? These are make-or-break questions to ask yourself before pulling the trigger.
When a long-term personal loan makes sense
Now that we’ve picked apart the nitty-gritty details, let’s explore when a long-term personal loan might be a good idea. A personal loan can be a powerful consolidation tool for those struggling to eliminate high-interest debts — assuming you snag a better APR. In addition to saving money, you’ll have a clear timeline in place and the convenience having just one monthly payment.
When it’s the cheapest borrowing option
As far as rates go, the better your credit score and higher your income is, the better chances you’ll secure a good rate. If you have poor credit, however, you should expect to see a higher rate. Personal loan rates can eclipse credit card rates, getting as high as 35.99%.
“Sometimes a personal loan is actually the least expensive option available, but sometimes it’s also the only option available,” added Ballou. “Not everyone has something to collateralize, like equity in their home to unlock a home equity loan.”
When a long-term personal loan doesn’t make sense
If you’re stuck between a financial rock and a hard place, being hit with costly fees or high interest rates is certainly better than filing for bankruptcy or defaulting on your bills. The good news is that doing some light research might reveal a different option that’s a better fit than a personal loan.
Begin by asking yourself what you need this loan for. Is it to see you through a financial emergency that’s unlikely to happen again? Or is it to take a last-minute vacation? That may sound obvious, but it’s a legit question to ask because it’s all about trade-offs here.
You might, on the other hand, feel like it’s your best option if you’re swimming in credit debt with higher interest rates and need a debt consolidation loan.
The scenario plays out better if you have a fully-funded emergency savings.
“If you have a steady job and you’re at that three- to six-month level, and the trip is extremely important to you because it’s for, let’s say, your best friend’s wedding, you’re better off dipping into your emergency fund and then paying yourself back — but you have to be extremely committed to topping it back off as soon as possible,” said Capalad.
When your cash reserves are running low and a long-term personal loan isn’t your best option, it’s time to explore the financial alternatives. (We’ll dive deeper into your options below.)
Getting a long-term personal loan
Ready to move forward with a long-term personal loan? Here’s what should be on your radar:
Where to get a long-term personal loanApplying for a long-term personal loan isn’t all that different from locking down one with a shorter term. The internet has certainly streamlined the process. LendingTree, which is MagnifyMoney’s parent company, offers a way to compare loans from top lenders like BestEgg, Avant, LendingClub and more. Here, you can plug in a few pieces of information and possibly get quotes in a matter of seconds based on your credit score. It’s a soft credit pull, which won’t hurt your credit, but just know that when you officially apply with a lender, it will count as a hard inquiry.
Just be sure to compare rates as no two lenders are the same. Let’s say, for instance, your credit score sits at 660 and you’re looking to remodel your kitchen for $20,000. Short of a hard credit pull, here are some instant quotes:
on Discover Personal Loans’s secure website
on Payoff’s secure website
Loan Amount $5,000 – $35,000Termup to 60 MonthsAPR Range8.00%-25.00%Origination Fee2.00%-5.00%Credit RequiredGood/ExcellentSoft PullYou can get your rate without hurting your score.Advertiser Disclosure : All loans are subject to credit review and approval. Your actual rate depends upon credit score, loan amount, loan term, credit usage and history. Currently loans are not offered in: MA, MS, NE, NV, OH, VT, WI, and WV.
on BestEgg’s secure website
Loan Amount $2,000 – $35,000Term36 or 60 MonthsAPR Range5.99%-29.99%Origination Fee0.99%-5.99%Credit RequiredGood/ExcellentSoft PullYou can get your rate without hurting your score.As you can see, there’s a pretty wide gap when it comes to interest rates. The good news is that the longer the term, the shorter the monthly payment — but you’ll ultimately pay more in interest over the long haul. For example, let’s pretend you lock down that $20,000 loan with no origination fee and an APR of 16%. Now let’s compare what happens when we tweak the repayment timeline:
Payoff Timeline
Monthly Payment
Total Interest Paid
60 months
$486
$9,182
40 months
$648
$5,935
24 months
$979
$3,502
There are a lot of moving parts here, which is why reading the fine print is vital. Before we jump into that, let’s talk about getting pre-qualified.
Applying for a personal loanOnce you’re ready to formally apply for a long-term personal loan, you’ll need to gather up some documents. According to Ballou, this typically includes:
- Photo ID
- Proof of income and employment
- Bank statements
- Possibly a copy of a W-2 or tax return as proof of past income
Once the application process is in motion, the next step is approval, but Ballou says you could be denied if the lender sees you as a credit risk. Having bad credit, a short credit history, unreliable income or unsteady employment could all work against you.
Read the fine printBefore making the commitment, thoroughly read through all the terms and fine print. Here are some helpful questions to ask yourself:
- Do you really need this loan? If it’s a true financial emergency, the answer might be yes. Otherwise, think long and hard before going all in.
- Can your budget comfortably absorb the monthly payment? Remember, personal loans are locked in; you’re on the hook for that payment every month.
- Is there an origination fee? Run the numbers and also factor in the APR. How much will your loan actually cost you when all is said and done? Is there a cheaper alternative? (We’ll jump into this in the next section.)
- Are you okay with the repayment timeline? Think about your long-term financial goals. If, say, you’d love to save for a down payment on a house within the next five years, will this loan impede your ability to do so?
- Is a prepayment penalty hiding in the contract? This could make it costly to pay off your loan ahead of schedule.
Alternatives to a long-term personal loan
Depending on your situation, a personal loan may very well be your cheapest option. If not, you’re not out of luck. Here are some alternatives worth exploring:
“If you can aggressively pay down the debt, then you can save a lot of money, especially if you have a lot of debt,” said Capalad.
Just be sure to read the fine print. There’s usually an initial fee that could be as high as 4%. And once the promotional period ends, your APR may skyrocket. This option really only makes sense if you can eliminate the balance within that time. Also, most banks won’t let you transfer debt from one card to another within the same bank.
The Pros and Cons of Long-Term Personal Loans
Let’s recap, shall we?
Pros:
- Long-term personal loans translate to on-the-spot cash that’s typically deposited right into your bank account, which you can then use for whatever you want.
- If you routinely make on-time payments, you’ll end up boosting your credit score in the long term.
- Using personal loans to consolidate debt could save you big time in interest.
- They’re good for folks who don’t have something to collateralize, like home equity or a car.
Cons:
- The monthly payment and payoff timeline are fixed, and there’s no wiggle room. If you miss it, you’re in default, which could do a number on your credit score.
- Depending on your credit score, you may not be eligible for a reasonable APR. This could cost you.
- Your loan may come with a prepayment penalty.
- Making this monthly payment over a long period of time could impact your ability to save for other financial goals.
- Opting for a long-term loan over a short-term one means you’ll ultimately shell out more in interest payments.
The bottom line
Moving forward with a long-term personal loan really comes down to your individual situation. The big idea here is to choose the least expensive financing option.
Using credit to live beyond your means is one thing, but debt that gets you to a better place and adds value to your life is another. If a long-term personal loan can help see you through a financial emergency relatively unscathed, it might be worth taking on some new debt.
As Ballou aptly put it: “The cost may be worth what it’s giving you.”
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