Have you ever considered applying for an unsecured personal loan to satisfy financial needs? These types of loans are an excellent means of borrowing, especially for those that are renters and have no property for collateral. However, be prepared to pay higher interest rates for your unsecured loan than you would for a second mortgage. The interest rates of personal loans are defined by a few important factors.

Current Market Interest Rates

The most dominant facet for defining loan interest rates is the current market interest rates. The Federal Reserve computes the market interest rates. The Reserve lends money to banks and frequently alters their lending rate, dependent on the economy. So, when the Federal Reserve raises their rates, individual banks must also increase their rates so that they are able to continue earning profit. It is critical to examine the market interest rates prior to submitting an application for unsecured loans. Your timing is going to be critical.

Bank Guidelines/Policies

The individual policies of the varying commercial banks are going to influence interest rates. They each have their own formula for generating profit off of your loan. This formula is mostly going to consist of what there back-end costs are going to be for servicing you loan based on your borrowing amount and requested term. Every bank has different costs and therefore are going to have varying interest rates than each other.

Credit Rating/Scores

The most influential element of the interest rates you receive for your loan is going to be your credit rating/score. Your past credit history is going to determine what your credit score is. Each potential lender is going to evaluate your credit history and score when determining whether or not to grant you approval and what sort of interest rates to grant. Individuals with credit scores of 600 or lower are usually considered as high-risk by lenders. Therefore, if you fit in this category, you may not even get approved for the loan you are looking for. 601 – 675 is considered decent credit, 676 – 700 good and 701+ very good. Obviously the better your credit score, the better rates you will receive.

Income

The amount of money you earn is not as influential as your credit score but is still a very important variable. It is crucial that you show enough earnings to be able to pay for your loan. For example, if you apply for a loan that is going to require a monthly payment of $1000, you better earn enough/month to be able to pay that amount. And it’s important to note that lenders are not going to require you to earn $1000, you will need to earn more. And enough to cover your current expenses as well as this loan amount. The more money you generate, the less likely you are going to default on your loan, the lower-risk you are considered, and therefore you will receive favorable interest rates if all other interest rate determining variables are positive.

Debt

Lenders are going to determine what your debt-to-income is when analyzing your debt situation for determining interest rates. The higher your debt-to-income is, the higher your interest rates are going to be. It is also important to note that the more debt you have, the less amount of financing you will be able to get approved for. Therefore, if you are able to, pay down as much debt as you can prior to submitting an application for a personal loan. Obviously this may be difficult for anyone to do since you are in need of extra cash, hence your reason for applying for a loan.

 

Ray

Ray

Ray is an ex-financial adviser and the founder of Financial Highway. Currently working in the financial industry and working towards completing his Chartered Financial Analyst, CFA, designation.