Need a personal loan but not sure how personal loan rates work?
You are not alone. Today, average interest rates are sitting at 12.26%, and that’s a 9%+ APR that can end up costing you thousands of dollars extra in finance charges if you’re not aware of how personal loan interest rates work.
The truth is that most people don’t know or understand the factors that go into determining your personal loan rate or the different repayment options. The good news is that this is an easy issue to fix.
In this guide, we’ll cover:
- How to Calculate Personal Loan Interest Rates
- Factors That Affect Your Personal Loan Interest Rate
- Explaining Personal Loan Repayment Options
- Proven Strategies To Lower Your Personal Loan Rate
How to Calculate Personal Loan Interest Rates
Personal loan interest rates are expressed in a percentage format known as Annual Percentage Rate or APR.
The APR represents the actual cost of the loan by including both the interest rate and all lender fees. This means that when you’re comparing different loan options, the APR is the most important number to compare.
It’s important to note that personal loans almost always come with a fixed interest rate. A fixed rate means that your rate won’t change over time and your monthly payment will stay the same, making it easy to budget and plan for.
As of April 2022, the typical personal loan rate ranges from about 7% to 36%. That’s a pretty big spread, and the interest rate you qualify for will make a big difference in the amount of interest you end up paying.
Factors That Affect Your Personal Loan Interest Rate
Lenders will look at a variety of factors when deciding what interest rate to offer you. Understanding what affects your personal loan rate will help you know what to expect.
Credit Score
Your credit score is the number one factor that determines what interest rate you will qualify for.
Good to excellent credit borrowers (720+) can typically qualify for personal loan rates in the 6% to 8% range. In contrast, fair or poor credit can get interest rates of 20% or higher.
Loan Amount & Length of Repayment
The size of your loan and the length of the repayment term also impact your rate.
Generally, the larger the loan amount, the more competitive the rate can be. But longer loan terms usually come with higher interest rates. Personal loan terms are usually between 2 and 7 years.
Type of Lender
The personal loan lender you go with also matters a lot.
If you are going to get a personal loan from a traditional bank, you may want to consider Chase personal loans. These personal loans have competitive rates for qualified borrowers that already have banking relationships.
Credit unions can also offer personal loans, and they usually have lower rates than banks. Interestingly, though, the most popular place to get a personal loan is online. Over 50% of borrowers take out their loans from online lenders because they have more flexible underwriting criteria.
Income & Debt-to-Income Ratio
Lenders will also consider your income and debt-to-income ratio when determining your rate.
They need to know that you can afford the loan payments, so they’ll review your income level and your existing monthly debt payments. Your monthly debt payments divided by your gross monthly income is known as your debt-to-income ratio, and a lower ratio is better.
Personal Loan Repayment Options Explained
Personal loans can be repaid in several different ways. It’s important to understand the structure of your repayment and choose the option that best fits your budget.
Standard Fixed Payment Loans
The most common personal loan structure is a fixed payment loan. You make the same payment every month until the loan is paid off, and the payment includes both interest and principal. It’s simple, predictable, and easy to budget for.
Shorter vs Longer Term Lengths
One of the biggest decisions is how long the term of your loan will be. A shorter-term loan with higher payments may be better if you want to pay off debt quickly. A longer term with lower monthly payments may be better if you want to keep your budget low.
Autopay Discounts
Most lenders will offer a discount to your interest rate if you agree to set up automatic bank account withdrawals. This is typically 0.25% to 0.50% but it’s free money. An autopay discount also encourages you to never miss a payment.
Prepayment Options
Some lenders will charge you a fee if you want to pay the loan off early. Other lenders allow you to prepay with no penalties. If you think you may want to make larger payments or pay off the loan early, choose a lender that doesn’t charge prepayment fees.
Smart Strategies To Lower Your Personal Loan Rate
The next step is to learn how to get lower interest rates on your personal loan. There are several proven strategies that you can use to increase your odds of qualifying for the lowest possible rate.
Improve Your Credit Score First
If you have some time before you plan on applying for a personal loan, the best thing you can do is improve your credit score. If you can increase your credit score by even a little bit, you may be able to qualify for a much better rate.
Credit Score Quick Wins:
- Pay down credit card balances
- Make all your payments on time
- Check your credit report for errors
- Avoid opening new credit accounts
Shop Around & Compare Offers
Don’t just accept the first offer you get from a lender. Shop around and get prequalified from multiple lenders to see what rates you actually qualify for. Rates can vary wildly from one lender to the next.
Consider a Co-Borrower
One way to get a lower interest rate even if your credit score isn’t great is to apply with a co-borrower. The co-borrower takes responsibility for paying back the loan along with you.
Pick the Right Loan Amount
Make sure you only borrow the amount of money that you need. Some lenders offer their best rates on mid-range loan amounts of $10,000 to $25,000.
Final Thoughts on Personal Loan Interest Rates
Personal loan interest rates can have a major impact on how much you pay for a loan. The difference between a good and a bad rate can cost you thousands of dollars over the life of your loan.
With average personal loan debt per borrower now at $11,704, it’s more important than ever to know the factors that determine your personal loan rate.
Here’s what to remember:
Your credit score is the single biggest factor when it comes to qualifying for a low interest rate. Shop around with multiple lenders to compare rates. Choose a repayment term that you can afford based on your budget.
By learning how to read a personal loan rate and shop for the lowest interest rates, you’re already in a much better position than most borrowers.