What Is a Personal Loan?

A personal loan is a type of installment loan. It's often unsecured — meaning collateral isn't required — and offers a way to finance large purchases, cover unexpected expenses, or consolidate high-interest debt. If you're approved for a personal loan, you'll get the cash you need upfront in exchange for making fixed monthly payments over a set period of time.

Plus, they have average APRs much lower than credit cards, according to 2024 Federal Reserve data. To help you decide whether a personal loan is the right solution for you, we'll cover how personal loans work, what expenses they're best for, and how to qualify. 

How does a personal loan work?

When you apply for a personal loan, the lender reviews your financial information, including your credit score and income, to determine whether you qualify and what interest rate and fees you'll pay. If you accept the loan offer, you'll receive a lump sum of cash in your bank account or can have it sent to your creditors (if paying off debt).

If the lender charges an origination fee, it is typically deducted from the initial loan proceeds. Origination fees can range from less than 1% to 12% of the loan amount, depending on the lender and the strength of your application. Personal loan amounts generally range from $1,000 to $50,000, but some lenders may offer up to $100,000 or more.

Shortly after funding, you'll begin repaying the loan in equal monthly payments over its repayment term, which is typically between one and seven years. However, terms can be much longer for certain types of personal loans — like home improvement loans. Each payment includes a portion of your principal, or the amount you borrowed, plus compensation for the lender, which is determined by your interest rate and calculated based on the principal.

Learn More: How Do Personal Loans Work?

APR vs. interest rate

When researching personal loans, you'll see lenders advertising their lowest annual percentage rate (APR).

• APR: A loan's APR reflects how much it costs to take out a loan, in total, accounting for both the interest rate and upfront fees, such as an origination fee.
• Interest rate: A loan's interest rate is the percentage of the loan amount that the lender charges annually. It doesn't reflect upfront fees.

APRs tend to be higher than interest rates since they include upfront fees. However, if a loan does not charge any upfront fees, the interest rate and APR should be the same.

Common features of personal loans

Fixed interest rates

APRs from 6.99% to 35.99%

Personal loans rates are generally lower than credit card rates. According to data from the Federal Reserve, the average rate for two-year personal loans is 11.92%, compared to 21.51% for credit cards. Lenders are required to disclose a loan's annual percentage rate (APR), which reflects the total annual borrowing cost, including interest charges and upfront fees.

Personal loan APRs currently range from 6.99% to 35.99%. Loan rates are typically fixed rather than variable, which means your monthly payments will be predictable.

Few or no fees

Upfront origination fees between 0% and 12%

Many lenders charge an origination fee, a single upfront fee deducted from loan funds, between 0% and 12% of the loan amount for personal loans. Some personal loans, often including those for good-credit borrowers, don't come with an origination fee. Lenders may also charge incidental fees for late payments and insufficient funds.

Many repayment term options

One to seven years or more

Many lenders let you choose from personal loan repayment terms between one and seven years. Some loan purposes can come with much longer terms, however, such as home improvement loans up to 20 years. Choosing a longer term generally means making smaller monthly payments but paying more in interest over the life of a loan, while the opposite is generally true of shorter terms

Easy application process

Few minutes

It typically only takes a few minutes to fill out a personal loan application online. You may need to upload documents that prove your identity and income, such as a photo of your driver's license or pay stubs from your job.

Quick funding

Same day to within one week

Some personal loan lenders can disburse loan funds as soon as the same business day of approval for qualified borrowers who sign the contracts in time. In most cases, funding usually takes no longer than a week.

What are personal loans used for?

Personal loans can be used for almost any personal expense, from a car repair to a veterinary bill.

• Debt consolidation
• Major purchase
• Emergency expenses
• Home improvement
• Medical bills
• Special occasions (weddings, vacations)
• Moving expenses
• Car repair
• Boat / RV purchase
• Baby / adoption costs

Many personal loan lenders prohibit borrowers from using the loan funds for college tuition, investments, or down payments on homes. Some lenders also restrict the funds to personal expenses, while others allow borrowers to start or grow a business with the money. Check your loan agreement for any specific restrictions regarding your loan funds.

Secured vs. unsecured personal loans

There are two main types of personal loans: secured and unsecured.

Secured loans

Secured loans are loans that you "secure" by offering the lender collateral in exchange for a loan. For example, some lenders may require you to provide a savings account as collateral for a secured personal loan. If you can't make your loan payments, your lender can use your savings account to cover the missed payments or to pay off the loan balance. Other examples of secured loans include mortgages and auto loans.

Unsecured loans

Unsecured loans are loans that don't require collateral. Most personal loans are unsecured. The advantage is that you can get a loan without risking an asset, and there's no appraisal process which means funding is quick. However, interest rates on unsecured loans might be higher than secured loans. Since the lender doesn't have the safely net of collateral, it charges a higher interest rate to offset its risk. Examples of unsecured loans include most personal loans and student loans.

When is a personal loan a good idea?

A personal loan is typically a good idea if both of the following are true:

• You're facing a necessary expense or paying off credit card debt and can get a lower rate on a personal loan.
• You can afford the monthly payments for a personal loan along with your other expenses and debts.

If you're using the loan for debt consolidation, it should also meet one of the following criteria:

• The loan allows you to save money on interest over time, typically through a lower interest rate than you pay on your existing debts.
• The loan lowers your monthly payments, helping you avoid late fees and credit damage.

A personal loan is generally not a good idea if any of the following are true:

• The expense is not a necessity.
• You have the option to delay the expense until you build enough savings to cover it.
• You can't afford to take on new debt because your current income doesn't cover your basic needs.
• You're so overwhelmed with debt that you wouldn't be able to manage repayment even if you had more time or a reduced interest rate.

If either of the last two statements are true, find a nonprofit credit counselor through the U.S. Department of Justice's list of approved credit counseling agencies and check your eligibility for government benefits before taking on any new debt.

Personal loan requirements

Personal loan requirements vary depending on where you apply, but lenders are more likely to approve borrowers that meet the following criteria:

• At least a fair credit score: Most lenders require a FICO credit score in the mid-600s or above, but some lenders specialize in bad-credit personal loans.
• Stable income and lower debt-to-income ratio (DTI): Lenders want to make sure you have enough monthly income to repay the loan. They'll check your DTI, which is the portion of your monthly income spent on minimum debt payments, to make sure you're not overextended.

Some lenders are more flexible than others. In some cases, an excellent credit score (a FICO score of 800 or higher) can make up for a low income and vice versa. However, many lenders set minimum requirements for both income and credit score, though few disclose exact requirements to the public.

Most lenders allow you to prequalify online, which will give you an idea of whether you may qualify and what rate you'll get. However, obtaining prequalification does not constitute an offer or guarantee final approval. You can also increase your approval odds by applying with a cosigner or co-applicant who has good credit and sufficient income.

How to apply for a personal loan

Most online lenders offer a similar application process. If you're applying for a personal loan from a bank or credit union, you may be able to get assistance with the application at a local branch. Generally, you'll follow these steps:

1. Check your personal finances: View your free credit report at AnnualCreditReport.com and check for any errors, disputing them with the appropriate bureau(s) as needed. Next, look up your credit score. Many banking apps feature a credit check tool you can use to check your score, and you can also access your score from TransUnion, Equifax, Experian, or using Credible's credit monitoring tool. Finally, evaluate your budget to determine how much you can afford to spend on a monthly payment.

2. Research lenders: Look for lenders you may qualify with based on your credit score and income. To narrow down your options, compare rates, fees, terms, loan amounts, and funding times. You should also check each lender's reputation on customer review websites like Trustpilot.

3. Prequalify with multiple lenders: For each lender that offers prequalification, check your estimated rate on the lender's website by entering some personal information, such as the last four digits of your Social Security number. You can also use a loan comparison site to view multiple offers in one place. The process only takes a few minutes, and it won't hurt your credit, but proceeding to apply for a loan authorizes a hard credit check that can ding your score temporarily.

4. Choose a quote: Narrow down your prequalification quotes to the ones with affordable monthly payments — you want to make sure you can afford payments for the full term — then choose the option with the lowest total borrowing cost. You can use a personal loan calculator to help you compare costs.

5. Formally apply: Proceed with the loan application for the lender of your choice. This will require a hard credit inquiry, which will likely cause a slight dip in your score. You may need to answer additional questions or upload documents to complete the application.

6. Sign your loan documents: Review your loan agreement, which may differ from your prequalification quote. If you're happy with the final rate and you understand the terms, sign your loan documents to start the funds transfer. You can also contact a customer service representative if you have questions.

Personal loan alternatives

If you can't get or don't want a personal loan, you may have several other options, including:

0% credit card

Certain credit cards offer 0% APRs on purchases and/or balance transfers for a certain number of months after you open your card. (You may also be approved for a 0% APR balance transfer offer on an existing card.) A credit card with a 0% APR on purchases could provide interest-free payments for nearly two years. Just note that you'll need to pay off the balance before the promotional period expires to avoid paying the card's standard rate.

Home equity loans

The difference between your home's market value and what you owe on your mortgage is known as "equity." Some lenders are willing to give you a loan based on that equity if you have enough of it. An advantage to home equity loans is that they tend to have competitive interest rates. That being said, you'll have to put your home up as collateral to get the loan. If you can't repay the loan, the lender can repossess your home.

Borrowing from family and friends

If you're out of borrowing options from lenders (maybe you don't have good credit), consider asking friends or family to borrow money. However, approach this personal loan alternative carefully. Borrowing money from loved ones can create problems that may not be worth the money you get, financial therapist Kate Dorman said.

"Borrowing money can lead to feelings of indebtedness, shame, and inferiority," Dorman said. "Before asking to borrow money, think about how a family member or friend may respond — with generosity and kindness, with judgment and disappointment, with shock and confusion. Consider how their reaction could make you feel."

Additionally, Dorman recommends sitting down with the friend or family member you want to borrow from and having "several conversations about expectations, obligations, and boundaries."

Read More:

• Current Personal Loan Interest Rates
• Best Personal Loans
• Best Personal Loans for Fair Credit
• Best Personal Loans for Excellent Credit
• Best Personal Loans With a Cosigner
• Best Low-Interest Personal Loans