A personal loan can be a helpful financial tool when someone needs to borrow money to pay for things like home repairs, a wedding, or medical expenses, for example. The principal amount of a loan refers to how much money is borrowed and has to be paid back, aside from interest.
Keep reading for more insight into what the principal of a loan is and how it affects repayment.
Loan Principal Meaning
What is the principal of a loan? When someone takes out a loan, they are borrowing an amount of money, which is called “principal.” The principal on a loan represents the amount of money they borrowed and agreed to pay back. The interest on the loan is what they’ll pay in exchange for borrowing that money.
Does a Personal Loan Have a Principal Amount?
Yes, a personal loan does come with a principal amount. Whenever a borrower makes a personal loan payment, the loan’s principal decreases incrementally until it is fully paid off.
The loan principal is different from interest. The principal represents the amount of money that was borrowed and must be paid back. The lender will charge interest in exchange for lending the borrower money. Payments made by the borrower are applied to both the principal and interest.
Along with the interest rate, a lender may also disclose the annual percentage rate (APR) charged on the loan, which includes any fees the lender might charge, such as an origination fee, and the interest. As the borrower makes more payments and makes progress paying off their loan principal amount, less of their payments will go towards interest and more will apply to the principal balance. This principal is referred to as amortization.
Loan Principal and Taxes
Personal loans aren’t considered to be a form of income so the amount borrowed is not subject to taxes like investment earnings or wages are. The borrower won’t be required to report a personal loan on their income tax return, no matter who lent the money to them (bank, credit card, peer-to-peer lender, etc.).
As tempting as it can be to pay off a loan as quickly as possible to save money on interest payments, some lenders charge borrowers a prepayment penalty if they pay their personal loan off early. Not all charge a prepayment penalty. When shopping for a personal loan, it’s important to inquire about extra fees like this to have a true idea of what borrowing that money may cost.
The borrower’s personal loan agreement will state if they will need to pay a prepayment penalty for paying off their loan early. If a borrower finds that they are subject to a prepayment penalty, it can help to calculate if paying that fee would cost less than continuing to pay interest for the personal loan’s originally planned term.
How Can You Pay Down the Loan Principal Faster?
It’s understandable why some borrowers may want to pay down their loan principal faster than originally planned as it can save the borrower money on interest and lighten their monthly budget. Here are a few ways borrowers can pay down their loan principal faster.
Interest Payments
When a borrower pays down the principal on a loan, they reduce how much interest they need to pay. That means that each month as they make a new payment, they reduce their principal and the interest they’ll owe in the future. As previously noted, paying down the principal faster can help the borrower pay less interest.
Personal loan lenders allow borrowers to make extra payments or to make a larger monthly payment than planned. When doing this, it’s important that borrowers confirm that their extra payments are going towards the principal balance and not the interest. That way, their extra payments work towards paying down the principal and lowering the amount of interest they owe.
Shorten Loan Term
Refinancing a loan and choosing a shorter loan time can also make it easier to pay down a personal loan faster. Not to mention, if the borrower has a better credit score than when they applied for the original personal loan, they may be able to qualify for a lower interest rate, which can make it easier to pay down their debt faster. Having a shorter loan term typically increases the monthly payment amount but can result in paying less interest over the life of the loan and paying off the debt faster.
Cheaper Payments
Refinancing to a new loan with a lower interest rate may reduce monthly loan payments, depending on the term of the new loan. With lower monthly scheduled payments, they may opt to pay extra toward the principal and possibly pay the loan in full before the end of the term.
Other Important Information on the Personal Loan Agreement
A personal loan agreement includes a lot of helpful information about the loan, such as the principal amount and how long the borrower has to pay their debt. The more information the borrower has about the loan, the more strategically they can plan to pay it off. Here’s a closer look at the information typically included in a personal loan agreement.
Loan Amount
An important thing to note on a personal loan agreement is the total amount the borrower is responsible for repaying.
Loan Maturity Date
A personal loan’s maturity date is the day the final loan payment is due.
The monthly loan payment amount will be listed on the personal loan agreement. Knowing how much they need to pay each month can make it easier for the borrower to budget accordingly.
The Takeaway
Understanding how a personal loan works can make it easier to pay one-off. To recap: What is the principal amount of a loan? The principal on a loan is the amount the consumer borrowed and needs to pay back.
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FAQ
What is the principal balance of a loan?
The principal balance of a loan is the amount originally borrowed that the borrower agrees to pay back.
Does the principal of the loan change?
The original loan principal does not change. The principal amount included in each monthly payment will change as the amortization period progresses. On an amortized loan, less principal than interest is paid in each monthly payment at the beginning of the loan and incrementally increases over the life of the loan.
How does loan principal work?
The loan principal represents the amount borrowed. Usually, this is done in monthly payments until the loan principal is fully repaid.
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Many people aspire to live a “debt-free” life. And for good reason: Getting out of debt means that your take-home pay is completely your own (since you won’t be sharing any of it with creditors). Having more money to work with can help you achieve your goals, whether it’s building an emergency fund, sending your kids to college, or being able to retire some day. Knocking down debt can also improve your day-to-day life by relieving stress and boosting your mental health.
The question is, how do you get there? If you’re currently living under a mountain of student loans, credit card debt, medical debt, and/or other types of debt, it can be hard to see a way out or, frankly, even a ray of sunlight. But don’t give up. We’ve got six ideas that can help you whittle down your debt and get on the road to financial independence and freedom.
Key Points
• Living debt-free enhances financial stability and mental health by freeing up income and reducing stress.
• A realistic budget is crucial for managing expenses and allocating funds towards debt repayment.
• Extra income should be directed towards paying off debts, accelerating financial freedom.
• Debt repayment strategies like the snowball or avalanche methods help focus efforts and clear debts efficiently.
• Consolidating debts can simplify payments and potentially reduce interest rates, aiding quicker debt resolution.
What Does It Mean to Live a Debt-Free Life?
Living “debt-free” can mean different things to different people. In the purest sense, being debt-free means having absolutely zero debt — including no credit card debt, no car or student loans, and no mortgage.
However, some people subscribe to a looser definition of “debt-free,” where you’re free of so-called “bad debt,” such as high-interest credit cards and payday loans, but recognize that some debt is “good.”
A low-interest mortgage or student loan, for example, can be considered good debt, since it can help you increase your net worth or generate future income. This looser definition may work to your advantage because it allows you to achieve milestone goals like owning a home without high-interest debt burdening your monthly finances.
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Benefits of Living Debt-Free
However you define debt-free living, knocking down your debt comes with a wide range of benefits — some expected and some, perhaps, surprising.
• More money to spend: Interest charges eat away at your income, giving you less money for other things. Once you pay off your debts (particularly those with high interest rates), you’ll have a lot more money in your pocket.
• Financial stability: By freeing up cash, you’ll have money available to build your emergency fund (your best defense against running up costly debt in the future). You’ll also be able to put money towards other goals and investments.
• Less stress and anxiety: Dealing with debt isn’t just a financial challenge — it also impacts mental health. In a recent Forbes Advisor survey, 54% of adults said they often or always feel stressed by their debt circumstances; another 32% said they sometimes feel stressed because of their debt.
• A happier marriage: In the Forbes survey, 60% of respondents said financial stress has led to disagreements in their relationships. Money fights are a common cause of divorce.
• Increased self-esteem: Eliminating debt isn’t easy — it takes hard work, discipline, and determination. Reaching your debt payoff goals can give you a huge sense of accomplishment that leads to greater self-confidence.
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6 Ways to Climb Out of Debt
Having a lot of debt can feel overwhelming. The key to gaining control over the situation is to approach it one step at a time. Here are six strategies that can help.
1. Creating a Workable Budget
A smart debt-payoff plan begins with a realistic budget. Having a basic budget will help you live within your means (so you don’t get into more debt) and free up extra cash to put towards your debts each month.
The first step in creating a budget is understanding your monthly expenses. This includes everything from rent or mortgage payments, utility bills, groceries, and transportation costs to smaller expenses like subscriptions, leisure activities, and dining out. By assessing your expenses over the last several months, you may be surprised by how much you are spending in certain categories. You may also immediately find some places to cut back, such as canceling membership to a gym you rarely use and/or giving up streaming services you rarely watch.
If the idea of tracking every penny has been a barrier to budgeting, or if you’ve tried and failed in the past, try keeping things simple. The 50/30/20 rule is a simplified budgeting strategy that’s gained traction because it limits the number of spending categories you need to establish and track.
With this approach, you divide your take-home pay (what’s left after paying taxes) into three buckets:
• 50% goes to needs, including minimum debt payments
• 30% goes to wants
• 20% goes to savings and debt payments beyond the minimum
Keep in mind that these percentages are just a guideline, and can be tweaked to fit your situation. The key to becoming debt-free is to make a budget that’s strict but still doable.
2. Making More Money
Yes, this is easier said than done. But before rolling your eyes and moving on, consider the possibilities. Is it time for a pay raise? If a bump is overdue, it might be time to have a talk with the boss.
Consider any potential ways to make extra income from home. Do you always have nights or weekends off? Maybe a friend does catering, landscaping, house painting, or some other work and could use an extra hand from time to time.
If you have a marketable skill, like website design or creating social media content, you may be able to pick up freelance work. If you’re crafty, you might look into selling your wares online or at craft fairs and flea markets. If you love animals, you might want to offer dog walking or cat sitting services.
If you could earn an extra $500 per month, in 12 months, you’d be able to pay off an additional $6,000 of debt.
Even selling things you no longer need can bring in a nice lump sum of cash that you can use to knock down debt.
3. Applying Extra Money Towards Debt
If you get an unexpected windfall (such as a bonus at work, cash gift, tax refund, or inheritance), instead of living it up while the money lasts, consider using it to pay down some debt.
You might not think a few hundred dollars will make much of a dent, but every dollar you pay over the minimum can help reduce the interest you owe on a credit card or loan.
To get some idea of how paying even a little extra toward a bill can help, consider playing around with the numbers using a credit card interest calculator. It can be scary to see how much money you’ll pay in interest if you continue to pay only the monthly minimum, but it can also motivate you to divert as much extra money as you can toward getting that debt paid off once and for all.
4. Focusing on One Debt at a Time
Seeing progress can be inspiring. Think about how good you feel when you lose a little weight from changing your diet or gain some muscle from working out. Even small wins can be motivating.
How does that apply to downsizing your debt?
Two of the commonly recommended approaches to debt repayment are the snowball and avalanche methods. These strategies focus on making extra payments towards one balance at a time instead of trying to put a little extra money toward all your balances at once.
The Snowball Debt Payoff Method
The snowball method directs any excess free cash you might have to the debt with the smallest outstanding balance. Here’s how it works:
• List all of your outstanding debts based on how much you owe, from the smallest balance to the largest. (Disregard interest rates.)
• Pay as much as possible toward the debt with the smallest balance, while making the minimum payment on all other debts.
• After you pay off the smallest debt, turn your attention to the next-lowest balance. Keep going until you are debt-free.
The Avalanche Debt Payoff Method
The avalanche method focuses on paying off debts based on interest rate. It can take longer to get a win with this approach but, ultimately, it will save you more money than the snowball method. How it works:
• List your debts in order of interest rate, from highest to lowest. (Disregard balance amounts.)
• Pay as much as you can each month towards the debt with the highest interest rate, making the minimum payments on all other debts.
• Once you’ve paid off the highest-interest debt, focus on the debt with the next-highest rate, and so on, until you’re debt free.
Though the methods are different, both plans provide focus, and as each balance disappears, momentum grows.
A newer approach, the fireball method, may be a better fit for modern-day debt, which could include a large amount of low-interest student loan debt.
The Fireball Debt Payoff Method
The fireball method takes a hybrid approach to the traditional snowball and avalanche strategies. It’s called “fireball” because it can help blaze through bad debt faster by making it a priority. How it works:
• Categorize all debts as either “good” or “bad.” “Good” debt generally refers to things that can increase your net worth, such as student loans or mortgages. (Interest rates under 6% could be considered good debt.)
• List “bad” debts from smallest to largest based on each bill’s outstanding balance.
• Funnel any extra cash each month toward the smallest balance on the “bad” debt list, while making the minimum monthly payment on all other debts. Once that balance is paid in full, move on to the next-smallest balance on that list. Keep blazing until all “bad” debt is repaid.
• Pay off “good” debt on the normal schedule while investing for the future. Apply everything you were paying toward “bad” debt to investing in a financial goal.
The fireball approach can help you save money because it gets rid of your more expensive debt first, but it also provides motivation by giving you wins early in the process. These combined elements could provide an extra boost to your efforts.
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5. Consolidating Debts
If your credit is strong, a debt consolidation loan could potentially help you repay your debts at a lower interest rate, saving you money over time. It also simplifies repayment by merging multiple payments into one. With this approach, you take out a personal loan and use it to pay off multiple high-interest debts. The key is to find a lender that is willing to give you a lower annual percentage rate (APR) than what you’re currently paying. Keep in mind that the shorter your loan term, the lower your APR may be.
Another way to consolidate credit card debt is to move it to a balance transfer credit card. This can be a smart move if you can qualify for a 0% intro credit card. This way, you can avoid paying interest for the first several months and all the money you pay towards the card goes to knocking down debt. Keep in mind, though, that you may have to pay a fee when utilizing a balance transfer credit card. And, once the 0% intro period is over, you’ll have to start paying interest on the remaining balance.
6. Negotiating With Your Creditors
If your debt has become too much to handle and you’re delinquent on payments, you may want to reach out to your creditors, explain your financial situation, and see if they may be able to work with you. They might be willing to set you up on a payment plan, reduce your monthly payments, or settle your debt for less than what’s owed.
If you go this route, be sure to take notes on your conversation with the customer service rep (including the name of the person you spoke with, when you called, and what they said) and get the proposed repayment or debt settlement plan in writing before you make any payments.
Also keep in mind that debt settlement can negatively impact your credit, so this option is generally considered a last resort.
When it comes to debt, the deeper the hole you’re in, the longer it may take to climb out. But having the right plan in place before can help stick to a budget and methodically reduce your debt in a way that keeps you motivated and saves you money.
Becoming entirely (or nearly) debt-free comes with a substantial payoff: The money you were once spending on debt repayment each month can now go towards savings — and an opportunity to earn, rather than pay, interest.
Interested in opening an online bank account? When you sign up for a SoFi Checking and Savings account with direct deposit, you’ll get a competitive annual percentage yield (APY), pay zero account fees, and enjoy an array of rewards, such as access to the Allpoint Network of 55,000+ fee-free ATMs globally. Qualifying accounts can even access their paycheck up to two days early.
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You can get a personal loan from many banks, online lenders, and credit unions. A type of unsecured loan, personal loans can be used to pay for just about any large expense.
You might use it to pay off credit card debt, an unexpected medical bill, or the cost of home renovations. Some people use these loans to fund a wedding or big vacation. Given the many ways these versatile loans can be spent, it’s no surprise that personal loans are a popular choice. Currently, 23.5 million Americans have unsecured personal loans, totaling about $245 billion.
If you’re thinking of getting a personal loan, read on to learn more about where you can get one and the pros and cons of each option.
Where Can You Get a Personal Loan?
In terms of where to get a personal loan, these loans are generally available through three main markets: banks, credit unions, and online lenders. (There are other types of personal loans available through physical storefronts and online, such as payday loans and pawnshop loans, but it’s wise to avoid these options. You’ll learn why in a minute.)
Banks
National and regional banks often offer personal loans, which you can typically apply for online or in person. A bank may be the first choice for consumers who are already account holders at that institution, especially since the loan amount can usually be deposited quickly and directly into their checking account.
Credit Unions
Credit unions are another popular option for where to source a personal loan — though generally, these loans are only available to those who are already credit union members.
Each credit union has its own eligibility requirements to open an account or otherwise do business with it, which may be based on where you live or what industry you work in. However, if you do have access to a credit union, you may find lower interest rates and more favorable terms there than at other financial institutions.
Online lenders have proliferated over the years. These days, a personal loan can be easy to find from one of these sources with just a few clicks.
Online lenders may offer instant or near-instant loan decisions. They also don’t require you to be a member of or an account-holder at any specific financial institution. That said, it may take longer to receive your check or transfer than it would if you were borrowing from a bank or credit union where you already hold an account.
💡 Quick Tip: Some personal loan lenders can release your funds as quickly as the same day your loan is approved.
Where Can You Get a Personal Loan With Bad Credit?
You can get a personal loan with bad credit from a few lenders, such as online ones and payday lenders, but it’s important to proceed with caution.
First, a little important background intel:
• A personal loan with no collateral, also known as an unsecured personal loan, can be tough to qualify for if your credit history is less than perfect.
• Since there’s no collateral, like a house or a car, for the lender to take if you fail to repay the loan, unsecured personal loans often come with steeper qualification requirements than other types of loans.
• They may also have higher interest rates, especially for those whose credit could use some improvement. There are some lenders out there who specifically market their products to folks with lower credit scores — but beware. Sometimes these loans come with predatorily high interest rates and other drawbacks.
Online Private Lenders
The convenience and ubiquity of the online personal loan market is a mixed blessing. Sure, it’s easy to find a loan when you need one, but it’s also easy to fall into a bad deal.
Some online lenders specialize in offering loans for poor or no credit, but be sure to read all the fine print before you hit “submit” on your application. The loans may come with soaring interest rates, high origination fees, or hidden costs. Do your homework and vet the business you are borrowing from to make sure it’s legitimate. You may want to check with the Better Business Bureau to search for any complaints on file and for reliable, verified reviews.
Payday Lenders
Payday loans have been around for a long time, but that doesn’t mean they’re a good option.
Designed to be repaid quickly (i.e., at the borrower’s next payday), these short-term cash loans may be for small amounts, but often come with astronomical interest rates. According to the Consumer Financial Protection Bureau, it’s not uncommon for these quick-turnaround loans to have APRs as high as 400%!
In almost every instance, when comparing payday loans vs. personal loans, payday loans are worth avoiding. Other forms of unsecured loans will likely come with lower interest rates and more favorable repayment terms. Fortunately, it is possible to find loans from reliable lenders — even with imperfect credit.
Banks and Credit Unions
You can get a personal loan with bad credit from a few lenders, such as online ones and payday lenders, but it’s important to proceed with caution.
First, a little important background intel:
• A personal loan with no collateral, also known as an unsecured personal loan, can be tough to qualify for if your credit history is less than perfect.
• Since there’s no collateral like a house or a car, for the lender to take if you fail to repay the loan, unsecured personal loans often come with steeper qualification requirements than other types of loans.
• They may also have higher interest rates, especially for those whose credit could use some improvement. There are some lenders out there who specifically market their products to folks with lower credit scores—but beware. Sometimes these loans come with predatorily high interest rates and other drawbacks.
Another place where you can go to get a personal loan of this sort is a bank or credit union. Each financial institution sets their own qualification requirements for their unsecured personal loans, so it’s worth shopping around to find the best fit for your financial needs. Additionally, they may have other products that could work for you, like secured credit cards or share-secured loans.
💡 Quick Tip: Just as there are no free lunches, there are no guaranteed loans. So beware lenders who advertise them. If they are legitimate, they need to know your creditworthiness before offering you a loan.
What Are Some Pros and Cons of Different Types of Lenders?
Now that you’ve learned about the main options for personal loan shopping, you can figure out which kind of lender is right for you. Each alternative comes with its own pros and cons. Here are some things to consider while you’re browsing.
Personal Loans From Banks
Pros of Personal Loans From Banks
Cons of Personal Loans From Banks
You may get a discounted rate if you’re already a member.
You may need to be an existing customer or have good credit to qualify.
Funds may show up more quickly if you have an existing account there.
You may have to go to the physical bank to apply.
Personal Loans From Credit Unions
Pros of Personal Loans From Credit Unions
Cons of Personal Loans From Credit Unions
Loans may come with lower interest rates and fees than other financial institutions.
You’ll need to meet whatever eligibility requirements are necessary to be a credit union member in the first place.
Qualification requirements may be minimal.
You may have to go to the physical credit union to apply.
Personal Loans From Online Lenders
Pros of Personal Loans From Online Lenders
Cons of Personal Loans From Online Lenders
Online lenders make it convenient and easy to apply for a personal loan from the comfort of your home.
It can be difficult to know for sure if you’re borrowing from a reliable, legitimate source.
A wide variety of lenders can be shopped for and compared easily through an online search.
Some online lenders may charge high interest rates and other fees.
Choosing a Personal Loan Lender
No matter where you choose to apply for a personal loan, the best way to determine whether it’s the right loan for you is to look at the fine print. The lender matters less than the loan, and knowing what you’re agreeing to ahead of time is key to avoiding an unpleasant financial surprise.
Here are the most important factors to look for when shopping around for a personal loan:
• Fees, such as origination fees, early repayment penalties, and late fees, can increase the total amount you’ll spend on your loan in no time. Ideally, you’ll want to look for a lender that charges few fees — or none at all.
• Interest rates can vary widely with unsecured personal loans, from as low as 4% to as high as 30% or more. While your specific options will vary based on your credit history and other financial information, it’s good to shop around for the lowest possible interest rate.
• Loan amount caps may be relatively small (e.g., $1,000) or very large ($100,000 or more). Whatever your financial need, you want to ensure your lender will offer enough for you to cover whatever expense you’re paying for.
There are many personal loan lenders to choose from, including banks, credit unions, and online lenders. Whether you need money to pay for an unexpected expense, such as a car repair, or you’re planning the ultimate 40th birthday party, it’s wise to shop around and compare interest rates, fees, and speed of funding.
Think twice before turning to high-interest credit cards. Consider a SoFi personal loan instead. SoFi offers competitive fixed rates and same-day funding. Checking your rate takes just a minute.
SoFi’s Personal Loan was named NerdWallet’s 2024 winner for Best Personal Loan overall.
FAQ
Where is the best place to get a personal loan?
In terms of where to get a personal loan, there isn’t one “best” place. When comparing banks, credit unions, and online lenders, look at interest rates, fees, customer reviews, and how quickly the loan would fund to determine the option that suits you best.
Where is the best place to get a small personal loan?
Where to go to get a personal loan depends on a variety of factors. Would you be more comfortable working with a large lender or a small, community-based lender for your small loan? Do you already have an account at a financial institution that also makes personal loans? It might also depend on how much you want to borrow because different lenders have different borrowing ranges.
Where is the easiest place to get a personal loan?
If you’re looking for where you can go for a personal loan, it might be best to start at a financial institution where you already have an account. In that case, your financial information will be on record, making the process faster and easier. Although online lenders may promise super-fast funding, be sure to research options carefully and make sure the business is legitimate and interest rates are affordable.
Photo credit: iStock/solidcolours
SoFi Loan Products
SoFi loans are originated by SoFi Bank, N.A., NMLS #696891 (Member FDIC). For additional product-specific legal and licensing information, see SoFi.com/legal. Equal Housing Lender.
Financial Tips & Strategies: The tips provided on this website are of a general nature and do not take into account your specific objectives, financial situation, and needs. You should always consider their appropriateness given your own circumstances.
Third-Party Brand Mentions: No brands, products, or companies mentioned are affiliated with SoFi, nor do they endorse or sponsor this article. Third-party trademarks referenced herein are property of their respective owners.
Non affiliation: SoFi isn’t affiliated with any of the companies highlighted in this article.
Personal loan scams are pervasive, often targeting borrowers with bad credit who are in desperate need of cash.
Taking out a personal loan can be helpful in addressing immediate money needs, whether it’s covering emergency expenses, funding a home renovation project, or paying for a large but necessary purchase. But it’s important that you learn how to spot a personal loan scam in the wild.
Let’s take a look at common signs and types of personal loan scams and tips for what to do if a scammer has taken advantage of you.
Signs of a Personal Loan Scam
Wondering how to spot personal loan scams? Check out these common signs of in-person, over-the-phone, and online personal loan scams:
No Credit History Is Required
Bad credit personal loans scams are among the most common. Borrowers who have poor credit scores but need cash to cover an emergency or pay their bills are easy targets for scammers (as well as predatory loans and loan sharks, the latter of which operate illegally).
When a lender advertises that they won’t run a credit check, it’s a likely sign of a scam — or, at least, very predatory loan tactics. Scammers may offer approval to get you to pay upfront fees or share personal information, like your bank account or Social Security number.
Typical personal loan requirements needed for approval include a thorough credit check and several other components.
Even if you have bad credit or no credit history, look for lenders that will:
The Federal Trade Commission (FTC) requires lenders to register with each state in which they do business. You can check a lender’s registration with your state attorney general’s office.
If the lender isn’t registered, you’ve likely stumbled upon a scam. Steer clear.
A Prepaid Debit Card Is Required
Upfront fees are often a sign of a personal loan scam (more on that below), but that’s especially true if the lender asks you to purchase and send a prepaid debit card or gift card to cover administrative fees before they can fund the loan.
Requesting other untraceable payment methods, like cryptocurrency, is also suspect.
The Lender Requires Immediate Action
Lenders that create a sense of urgency or use language that implies you must act now are potentially scamming you. A legitimate lender understands that you may need time to consider an important financial decision, such as taking on debt.
If a lender is requiring immediate action, it’s wise to walk away from the offer. Better safe than sorry.
The Lender Has No Physical Address
A legitimate lender should always have a physical address, even if it’s an online-only lending institution. Even if the lender does advertise an address but you’re feeling uneasy, verify the address online or on your phone with a maps app.
Not Transparent About Fees
Licensed lenders should disclose all fees upfront. If a lender is shady about their fees, it’s possible they’re trying to sneak in a bunch of high, unfair, and predatory charges.
💡 Quick Tip: Some lenders can release funds as quickly as the same day your loan is approved. SoFi personal loans offer same-day funding for qualified borrowers.
Upfront Payment
Determining the legitimacy of lenders requiring upfront payments can be challenging — because some reputable lenders often charge application fees and/or origination fees. If the fee comes before approval, however, that’s a red flag.
And if they’re requesting the upfront payment in an unusual way — gift cards, wire transfers, peer-to-peer transfer, etc. — that makes it even more likely it’s a scam.
No Digital Presence
A reputable lender should have an online presence in this day and age. If you can’t find the lender online or if they have a suspicious-looking website, it might be a scam.
You should never enter personal information into an unsecure website platform. Remember to find the padlock icon at the beginning of the URL in your browser’s search bar.
Also verify fishy emails and phone numbers.
Phone Offer
If a lender contacts you directly and you weren’t shopping for a loan, it’s OK to be a little cautious. Be suspicious of phone calls, mailers, and in-person visits when you haven’t requested any information.
Wire Transfers
Remember: Upfront fees before loan approval are often a sign of personal loan scams. If the lender requests that payment via wire transfer, be even more cautious. Wire transfer scams are among the most common types of bank account fraud.
Copycat Name
It’s important to look closely at a lender’s name or URL. It’s possible they’ve chosen a name similar to a legitimate lender (or a website with a similar URL and branding) to trick you into thinking they’re the real deal.
Guarantees Loan Approval
Legitimate lenders don’t guarantee loan approval without reviewing your information. Even lenders aimed at bad credit borrowers, which might not have minimum credit score requirements for a personal loan, do some kind of verification or background check.
If you see a lender that guarantees approval, that’s a major red flag.
Common Types of Personal Loan Scams
Legitimate personal loans, like SoFi’s personal loans and options from other reputable financial institutions, can be a useful tool for building credit and funding necessary purchases outside your monthly budget.
But criminals often take advantage of people’s needs with several common types of loan scams, including the following:
No-Credit-Check Personal Loan Scams
Some lenders do offer personal loans to borrowers with bad credit or no credit history at all. Even then, legitimate lenders typically do some kind of background check (unless it’s a credit builder loan).
If a lender is offering you a personal loan without ever checking your credit or background, it’s likely a scam. They may ask you to send fees in advance or may convince you to share personal information so they can steal your identity.
Live Check Scams
Be cautious if you receive an unsolicited pre-approved loan offer in the mail with a live check. Cashing or depositing that check locks you into the loan terms mailed with the check, which might include high interest rates or fees.
In general, you should not cash or deposit such checks unless you’ve read the loan terms and are ready to accept them. In most cases, you can likely find a better loan offer elsewhere — and shouldn’t accept an unsolicited offer if you weren’t in need of a loan anyway.
In a similar scam, you may receive a fake check from an unknown sender who asks you to deposit it and then wire them money (for a payment). This check could bounce after you’ve wired the money.
Student Loan Forgiveness Scams
In the wake of the Biden administration’s student loan forgiveness announcement last year, scammers began to promise loan forgiveness to borrowers in exchange for fees. The Consumer Finance Protection Bureau has officially declared this to be a scam.
Debt Consolidation Scams
Debt consolidation loans are a legitimate and common type of personal loan. However, if a debt consolidation company approaches you with an offer and is aggressive or advises you to cease communications with your creditors, it’s likely a scam.
💡 Quick Tip: Generally, the larger the personal loan, the bigger the risk for the lender — and the higher the interest rate. So one way to lower your interest rate is to try downsizing your loan amount.
What to Do If You Are Scammed
Have you been tricked into a personal loan scam? Here’s what to do:
Gather Documents
You’ll need to compile all the physical and digital evidence you can. This includes emails, mailers, paperwork, and even phone screenshots of interactions. The authorities will need this evidence to work your case.
Contact Local Law Enforcement
Even if the scammer is far away from where you live, contacting your local law enforcement is crucial. They’ll be able to file a police report for your case.
Place a Fraud Alert
You’ll want to place a fraud alert with all three major credit bureaus and freeze your credit reports. This will prevent fraudsters from opening credit in your name.
Continue to monitor your credit report and bank statements and report any suspicious entries. Even if your bank account was not compromised, it’s a good idea to inform your financial institution as well.
Contact Agencies Specializing in Oversight
You’ll also want to contact the appropriate agencies, including the Better Business Bureau, FTC, and your state attorney general’s office. You may need to reference the police report in these communications.
Personal loan scams can take advantage of borrowers when they are most in need of help. It’s important to stay vigilant when looking for a personal loan by working with reputable lenders that have a thorough application process and transparent fees.
Think twice before turning to high-interest credit cards. Consider a SoFi personal loan instead. SoFi offers competitive fixed rates and same-day funding. Checking your rate takes just a minute.
SoFi’s Personal Loan was named NerdWallet’s 2024 winner for Best Personal Loan overall.
FAQ
How can you protect yourself from personal loan scams?
To protect yourself from personal loan scams, familiarize yourself with the common tricks scammers use. Only seek out personal loans from reputable lenders that you can verify online and over the phone, and make sure they do a thorough background and credit check.
What are common personal loan scams?
Common personal loan scams include loans that don’t require credit checks, offer guaranteed approval, require upfront payments, or involve a live check. Educating yourself about common personal loan scams is the best way to prevent falling victim to one.
How can you report a personal loan scam?
If you’re the victim of a personal loan scam, collect all the evidence you have, file a police report, notify your bank and all three major credit bureaus (to place fraud alerts), and file complaints with the FTC, Better Business Bureau, and your state’s attorney general’s office. Continue to monitor bank statements and your credit report.
Photo credit: iStock/fizkes
SoFi Loan Products
SoFi loans are originated by SoFi Bank, N.A., NMLS #696891 (Member FDIC). For additional product-specific legal and licensing information, see SoFi.com/legal. Equal Housing Lender.
Non affiliation: SoFi isn’t affiliated with any of the companies highlighted in this article.
Third-Party Brand Mentions: No brands, products, or companies mentioned are affiliated with SoFi, nor do they endorse or sponsor this article. Third-party trademarks referenced herein are property of their respective owners.
Financial Tips & Strategies: The tips provided on this website are of a general nature and do not take into account your specific objectives, financial situation, and needs. You should always consider their appropriateness given your own circumstances.
For most Americans, having a car is a necessity. We need it to get to work, school, the grocery, the doctor, and all our weekly errands. Unfortunately, both new and used cars are expensive — and auto loan rates are on the rise as well.
So when buying a car, does it ever make sense to use a personal loan instead of traditional financing? We’ll break down the difference between personal loans and car loans and when you might want to use the former to buy a new set of wheels.
Personal Loan vs Auto Loan: An Overview
You can use a personal loan for almost anything, including buying a car. But why would you use a personal loan to purchase a vehicle when there are very specific loans — auto loans — to finance this purchase?
As we’ll see, personal loans can offer some benefits over car loans, including less buyer risk, no down payment needed, better negotiating power, and potential savings on car insurance. But car loans still have their place and may be cheaper in the long run.
Personal Loans
A personal loan allows you to borrow money from a bank, credit union, or lender to fund nearly any kind of purchase. People commonly use personal loans for debt consolidation, home renovations, weddings, vacations, and even new and used car purchases.
Personal loans can be unsecured (no collateral required) or secured (collateral required). For the sake of our personal loan vs. auto loan comparison, we’ll be looking at unsecured personal loans, as they’re more common.
Because unsecured personal loans aren’t backed by any collateral, interest rates tend to be higher than what you’d get for a car loan. Average personal loan interest rates vary depending on your credit score and the loan terms, but typically, they max out at 36%.
Most personal loans come with fixed rates, meaning your interest rate will stay the same over the life of the loan. It is possible, however, to get a variable-rate personal loan. Check out our guide to fixed vs. variable rate loans to figure out which is right for you.
Terms for Personal Loans
Personal loan terms vary by lender, but you can typically take out a loan with a repayment term of one to seven years. The faster you pay it off, the less you’ll pay in interest — but your monthly payments will be much larger.
💡 Quick Tip: Before choosing a personal loan, ask about the lender’s fees: origination, prepayment, late fees, etc. SoFi personal loans come with no-fee options, and no surprises.
Car Loans
When buying a new or used car through a dealership, the dealer’s finance department can help you find a loan through a bank or credit union. Alternatively — or when buying from a private seller — you can shop around for a car loan from various banks and credit unions on your own.
Auto loans are usually secured loans, meaning the car you’re buying serves as collateral. This means, if you fall behind on payments, the lender can repossess your car. (It’s possible, but less common and more expensive, to get a car loan without putting the car up as collateral.)
How Interest Rates Work on Car Loans
The collateral on the car loan reduces the risk to the lender, which usually results in a lower interest rate. Still, auto loan interest rates depend on your credit score.
Car loan rates for both new and used cars have increased in recent years, but they’re still typically lower than the average personal loan rate. Notably, car loan refinancing rates are lower than regular financing rates.
Terms for Car Loans
Like personal loans, car loans might stretch 84 months (that’s seven years), but some are as short as 24 months (two years). Also like personal loans, it’s common to repay your car loan over three to five years.
💡 Quick Tip: In a climate where interest rates are rising, you’re likely better off with a fixed interest rate than a variable rate, even though the variable rate is initially lower. On the flip side, if rates are falling, you may be better off with a variable interest rate.
Can You Use a Personal Loan to Buy a Car?
Yes, you can use a personal loan to buy a car. In fact, you can use a personal loan for (almost) anything. However, it often makes more sense to get traditional vehicle financing when buying a car.
In some ways, it can be better to buy a car with a personal loan. You don’t have to stress about saving up for a down payment, there’s no risk of your car being repossessed, and you might even have more negotiating power at the dealership.
However, many buyers prefer the structure of an auto loan. These loans tend to be cheaper in the long run because of the lower interest rates. And they’re easier to get — both because of lower credit score requirements for car loans and because dealerships can help you find the best car loan for you.
Pros & Cons: Car Loan vs Personal Loan
Buying a car with a personal loan instead of an auto loan has its share of advantages, but there are also drawbacks to consider.
Pros
• Less risk: When you take out a car loan, the car itself serves as collateral for the loan. If you miss enough payments, the lender could repossess your vehicle. With an unsecured personal loan, you don’t face that risk, though there are still consequences if you default on a personal loan.
• More negotiating power: When you don’t have to go through the hassle of securing financing, the car buying process is much easier and faster for you and the dealer. That means you might be able to negotiate a better deal, like a discount for paying in full.
• Lower insurance costs: When financing a car, the lender may require you to carry comprehensive, collision, and gap insurance. But when you pay for the vehicle outright with the funds from your personal loan, no one can require you to carry those car insurance coverages.
• No need to save for a down payment: Personal loans don’t require a down payment. Though some have origination fees, you might even be able to roll those into the cost of the loan. That means you could use a personal loan to get a car with no money down.
Cons
• Higher cost: Interest rates are typically higher for personal loans, which means you’ll end up spending more money on your car in the long run than you would if you got traditional auto financing. Origination fees for personal loans may also be higher than they are for car loans.
• Higher credit score requirements: Because auto loans are secured by the vehicle being financed, lenders are a little more willing to work with lower credit scores. The credit score you need for a personal loan is typically higher (around 670), though this varies by lender.
• More insurance risk: There may not be an auto lender requiring you to carry comprehensive, collision, or gap insurance, but declining those coverages just because your personal loan lender doesn’t mandate them could open you up to a lot of risk. If your car is totaled and you don’t have the proper coverage to get reimbursed, you’ll still be on the hook for making your personal loan payments — so think carefully before minimizing your car insurance coverage.
The Takeaway
Both auto loans and personal loans can help you get behind the wheel of a new (or used) daily driver. Determining which type of loan is right for you comes down to your needs and preferences.
Think twice before turning to high-interest credit cards. Consider a SoFi personal loan instead. SoFi offers competitive fixed rates and same-day funding. Checking your rate takes just a minute.
SoFi’s Personal Loan was named NerdWallet’s 2024 winner for Best Personal Loan overall.
FAQ
Is it easier to get a personal loan or car loan?
Getting a car loan is usually easier than getting a personal loan. That’s because car loans are secured by the vehicle you’re buying. That means less risk to the lender, who will be willing to accept lower credit scores.
Should I take out a personal loan to buy a car?
While you can get an auto loan through a bank, credit union, or the dealership, you can also pay for a car with a personal loan. Personal loans reduce your risk — there’s no chance of your car being repossessed — and they may give you more negotiating power. However, personal loans typically cost more in the long run.
Am I allowed to use a personal loan to buy a car?
Yes, you can use a personal loan to buy a new or used car. In fact, you can use personal loans for just about anything. Just read the fine print of any loan agreement to make sure.
Photo credit: iStock/skynesher
SoFi Loan Products
SoFi loans are originated by SoFi Bank, N.A., NMLS #696891 (Member FDIC). For additional product-specific legal and licensing information, see SoFi.com/legal. Equal Housing Lender.
Financial Tips & Strategies: The tips provided on this website are of a general nature and do not take into account your specific objectives, financial situation, and needs. You should always consider their appropriateness given your own circumstances.
