A personal loan is meant to cover personal expenses, and it can be obtained from a bank or a NBFC (Non-Bank Financial Institution). Since they’re not secured with collateral, they typically have higher interest rates, and approval depends on a combination of factors, which includes credit history, income, employment and the borrower’s capacity to repay the loan.
The tenure of a personal loan is between one and five years, but longer or shorter tenures can be approved case-by-case. Disbursement of the loan takes place within seven business days of the application.
Interest rates can be either fixed or floating. Floating interest rates change once or twice per year according to the market.
Although personal loans are easier to get than home or car loans, this does not mean that approval is guaranteed. There’s also no magic formula to getting approved, but like most things in life, you’ll want to put your best foot forward.
Obviously, the last thing you want is to get denied, so in this article, we will discuss some steps you can take to boost your chances of getting a personal loan.
Clean up Your Credit
Your credit score carries a lot of weight when it comes to getting approved for a personal loan. The higher it is, the better your chances. This means that the first thing you should do before applying is check your credit score and make sure that everything is as it should be.
Although bad credit loans are always an option, most lenders use credit scores to predict how likely an applicant is to pay them back.
You’re entitled to get one credit report for free every year, which allows you to see if the information is accurate and fix any errors that might drag down your credit score. The most common ones are incorrect credit limits, closed accounts that appear as open and wrong accounts. Errors in your credit report can also be indicative of identity theft, and you won’t know unless you check.
Rebalance Your Debt-To-Income Ratio
Besides your credit score, lenders also look at how much money you owe in relation to how much money you make. They’ll look at any other debts you might have, including student debt, mortgage, auto loans and credit card debt, so that they can calculate your debt-to-income ratio.
Not all lenders are strict when it comes to DTI, but lower ratios suggest that the applicant has their debts under control, and it’s relatively safe to approve their request for a personal loan.
If you want to calculate your debt-to-income ratio, all you have to do is add up your monthly debt payments and divide the total by your gross monthly income. To give you an example, if you earn $5,000 a month and your monthly debt payments add up to $1,000, your debt-to-income ratio is 20% because you divide 1,000 by 5,000 and get 0.20.
This means that if you reduce your debt by paying off some of your old loans and eliminating the corresponding monthly payments, you can improve your debt-to-income ratio and your chances of getting approved for a loan.
You should also avoid maxing out your credit cards since this will increase your credit utilization ratio, which is the ratio between how much you owe and your credit limits. Much like your debt-to-income ratio, your credit utilization ratio should be as low as possible, at least below 30%.
You can lower your credit utilization ratio by raising the limits on your credit cards, but this comes with some risks. It might require your credit card issuers to request a hard inquiry on your credit report, which can temporarily affect your credit score, and it might also tempt you to spend more money and accumulate more debt.
Don’t Ask for More Money Than You Need
The bigger the loan, the higher the risk for the lender. It’s also risky for you because borrowing too much money will affect your ability to meet other financial obligations. It’s better to look at what you’re hoping to accomplish by getting this loan, calculate the amount needed and only ask for that amount.
Smaller loans have better chances of getting approved since lenders know that applicants can pay them back even if their income is not very high.
Likewise, you’ll want to keep the loan term as short as possible. The longer the loan term, the more you will pay on interest and the higher the odds that something will happen that can prevent you from making your payments.
It’s also harder to get approved for personal loans with longer terms. Even though lenders know they can collect more interest, they also view them as riskier, especially if you’ve had frequent job changes causing them to worry about your financial stability.
Consider a Co-Signer
If you’re having problems getting a personal loan because your income and credit score are less than ideal, you might want to consider getting a co-signer. Their role is to apply for the loan with you and agree to repay the loan if you cannot make your monthly payments. This means that they have to have good credit and enough income to afford the monthly payments. Most often, people co-sign with family members or very close friends since it involves significant risk.
Even if you intend to keep up with your payments, certain events you can’t predict, such as job loss or illness, can affect your ability to repay the loan.
You’ll need to have an honest and serious conversation with your co-signer to make sure they know all the risks involved. You want to maintain a good relationship with this person, so choose someone that can afford to be a co-signer. Otherwise, this situation can result in garnished wages and resentment.
Find the Right Lender
Once you’ve figured out your credit score, income, budget and what monthly payments you can afford, you’ll need to start looking for the right lender. Most online lenders show their requirements, so you’ll know what credit score and annual income they prefer and if they offer the option of applying with a co-signer.
If you meet their minimum requirements, you can pre-qualify so you can get access to their estimated rates and terms. This will only trigger a soft inquiry, so it won’t affect your credit score. It’s best to get pre-approved by at least three different lenders so you can compare quotes. This is also a good opportunity to learn more about each lender and the process.