Life is too short to delay happiness. Therefore, if a significant opportunity to travel or celebrate comes your way, there is no harm in fulfilling your dream with a personal loan.
Yes, a personal loan is an unsecured loan which comes with the flexibility in use case. So, even if you do not have any collateral, your income can help you avail a personal loan.
Since you are reading this article, it would be a safe hazard to assume that you are already considering a personal loan and have a decent corporate income to back it up. Well, while income and need are the two crucial motivations to avail a personal loan, you cannot ignore other factors involved such as prepayment, foreclosure, credit score, and debt to income.
Here, we are going to take you through 5 things you need to know before opting for a personal loan so that you get the best interest rates and associate with the best suited lenders.
1. Maintain a Good Creditworthiness
Your credit score is a three-digit number that represents your credit history. It is calculated based on how punctual you have always been with your credit repayment. Often ranging from 300 to 900, the credit score is considered ideal when it is above 750. If lower, the credit score shows that you have been careless with your credit management and can also result in the rejection of your application or you may receive the loan at higher interest rate.
To maintain a good credit score, all you need to do is to pay your dues on time. Automating debt payments is a great way to keep a good score. Switching to new credit cards now and then may also ruin your credit score. So, you should stick to your old credit card for the long term and make payments on time to ensure better credit reliability. Another aspect that can get you brownie points in the credit score is maintaining a credit utilization ratio between 20-30%.
One thing we often tend to ignore is the co-signed loan accounts. If they are lagging in their loan repayments, it can affect your credit score too. Keep reviewing your credit report from time to time so that there is some scope of improvement left till you require a loan.
2. Compare the offers from all the lenders
Today, almost all banks and various NBFCs are offering personal loans with attractive interest rates. While some of these interest rates are unbelievably low, they come with hidden charges and costs which will result in a loan as expensive as the other lender. Therefore, from amongst the lenders charging interest rates between 10% per annum to 26% per annum, you should opt for the ones you can trust. You can also check their foothold in the financial market by contacting trusted agencies and financial advisors.
Make sure that the lender you are borrowing from discloses all the charges such as processing fee, prepayment fees, conditions for foreclosure and the cost of lending they will charge according to your income beforehand. If not, you should avoid such translucent transactions.
Some costs to look out for are:
- Processing fee: Almost all major banks and lenders charge 1-2% of the loan processing fee. Sometimes they have a flat processing fee regardless of the amount of loan. No matter what, it adds to the cost of your loan so it should be low for better gains.
- Prepayment Penalties: Often, individuals require loans to meet short-term financial crunches with the impression that they will repay the loan amount before it is due to save upon the interest. Conversely, they are trapped by the lenders through heavy prepayment penalties. Such penalties amount almost as much as the interest, and you were planning to save upon. So, you should opt for a lender who charges low prepayment penalties so that you can save up on some money on interest if not a lot. This will help you pay back the unnecessary debts in time too.
- Late Payment Fee: If finances have always been troublesome for you and you have struggled with a late payment on EMIs before, you should consider late payment fee also. This is the fee levied on the loan if you are not able to pay instalments in time and can take a toll on your finances.
3. Fixed Obligation to Income Ratio (FOIR)
While it is quite a technical term, FOIR is simply the proportion of your income being consumed in bill payments, credit card payments, and loan EMIs. Banks need to consider this ratio to assess your loan repayment capacity. Ideally, if your FOIR, after the new loan EMI, is somewhere between 40-50%, the lender will have little trouble sanctioning the loan to you at a reasonable interest rate.
Now, you can use the ideal rate of FOIR to calculate the tenure of your loan. In this way, the new loan will not result in a heavy burden on your salary also.
With a lower capacity of repayment, you can extend your repayment period and live comfortably. However, this will require you to pay the interest for a longer period. To resolve this issue, you can prepay some portion of it when you have the surplus, keeping in account the prepayment charges that should be agreed upon before entering the contract. Also, ensure that the amount of interest you save through prepayment significantly outweighs the foreclosure charged by your lender, if it is a part of the contract.
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4. Don’t Expect Multiple Lenders to Entertain your Application
When you apply for a loan, your application prompts the lender to initiate an enquiry with the credit bureau. This enquiry is treated as a hard enquiry and takes down a few points from your credit score. Therefore, the more you apply for the credit, the more lenders will inquire about you. As a result of this, you will be proven credit hungry in the bureau, deteriorating your creditworthiness and all your applications might get rejected.
To protect your creditworthiness, you can visit financial marketplaces online and compare the various lenders, the cost of the loan (the amount they are willing to lend at a given interest rate), and the extra charges. Now, you will have a more clear idea of where to apply for a personal loan when in need.
5. Bring Stability to Your Corporate Career
If you are planning to apply for a loan, you should be aware of the fact that personal loans do not require any physical collateral but are based upon the fact that you have a stable income. Hence, the more you switch jobs, the less you are stable, resulting in a deteriorated creditworthiness.
So, if you want your loan application to be accepted in time, make sure that you try to bring stability in the job you are working with. If not, the lenders might see you as a liability that might not be able to repay the instalments one day.
Assess your financial needs
Taking out a personal loan is not very difficult. Then again, you should know the right way to borrow or else you will be left with nothing but massive debts to repay in the peak years of your lives. Thus, we advise you to consider your requirement when availing the loan rather than your eligibility. That is, if you require a personal loan of INR 500,000 to make the down payment for an apartment, you should not exploit your eligibility and borrow INR 1,000,000. This will only increase the financial pressure on your salary, and you might end up wasting the rest of the amount.
Consider your ability to repay
Moreover, you know your repayment abilities and financial obligations better than anyone else. Hence, it would help if you only directed the proportion of your salary towards loans that you can afford. If you feel that you will not be able to service the personal loan EMIs after a few months, you should not avail one, to begin with.
In the end, personal loan is an incredible financial tool when it comes to facilitating expenses other than the ones covered under Home Loans, Business Finance etc. But that doesn’t mean that you cannot use them for these expenses. The key is to make an informed decision with advice from friends and family, and trusted financial advisors so that you can derive the best benefits from the loan without having to pay high costs.
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