Personal loans are a flexible solution when you need money for just about anything. But just because you can use a personal loan for a new TV or luxury vacation, it doesn’t mean it’s a good idea. So how do you best use a loan that’s practically a blank check?
Best Uses for Personal Loans
Funds from a personal loan are distributed in a lump sum to the borrower. The amount is then paid back with interest over the course of the loan term. That makes personal loans better for some uses than others:
- Consolidation. It can be overwhelming to carry debt from multiple loans or credit cards, especially if they have high interest rates. A personal loan can be used to pay off these debts, consolidating them into a single loan. Having a single loan payment is much easier to track, plus you’ll save money if the personal loan has a lower interest rate.
- Refinancing. If you’re currently making payments on a high-interest loan or credit card, it could be wise to refinance using a personal loan.
- Renovation. If you don’t have enough equity in your home to take out a home equity loan, you could opt for a personal loan. A personal loan could give you the means to make a renovation that boosts the value of your home, potentially paying for itself in time.
- Emergencies. Ideally, an emergency savings fund should be your first line of defense when faced with an unexpected expense. But life doesn’t always go according to plan, and sometimes you need to borrow money to help with costly emergencies such as a hospital stay, funeral, or car repair.
- Necessities. Some expenses may not qualify as emergencies, but can have a similar urgency. For example, your washing machine or oven could fail or you might have a wedding rapidly approaching with no way to pay for all related expenses.
Drawbacks of Personal Loans
Personal loans can be a great way to get cash when you need it, but they do have their drawbacks:
- Interest rates can be high. If you have poor credit, the interest rate on a personal loan can be higher than expected. You might get a better rate by opting for a product specific to your needs, such as a home equity loan, balance transfer credit card, or auto loan.
- Payments and terms are fixed. A personal loan’s monthly payment amount can feel hefty if you’re paying off a large sum. This can be a stark contrast to credit cards that may have low minimum monthly payments and operate as a revolving form of credit.
- The loan amount may be too small for your needs. If you need funds for a significant expense such as starting a business or purchasing a new car, a personal loan may not be enough. You would likely be able to borrow a larger amount of money by getting a small business loan or an auto loan.