Types of personal loans

Personal loans are a good way to receive much-needed cash and pay it back over time, but not all loan types are the same. Loans vary based on how the funds can be used, whether collateral is required and interest rates. Understanding the various types of loans is crucial to deciding which will work best for your situation.

7 most common types of personal loans

When shopping for a personal loan, you'll probably notice a few loan types that appear repeatedly. Here are the seven most common types of personal loans and who may benefit from each loan type.

Unsecured loans

Lenders don't require collateral for unsecured loans. This means that if you fail to repay the loan, you won’t have to surrender an asset, such as a car or savings in a bank account.

Secured loans

Lenders require collateral for a secured loan. Auto title loans require you to provide the title of the vehicle as collateral. If you don’t make payments on time, the lender can legally repossess the vehicle to recover the money it's owed. A mortgage is another type of secured personal loan that uses your house as collateral.

Fixed-rate personal loans

With a fixed-rate personal loan, your payments remain the same from one month to the next throughout the loan term. This type of loan is good for those who prefer predictable payments.

Adjustable-rate personal loans

Interest with an adjustable-rate personal loan may change according to market conditions. If your interest rate goes up, your monthly payments increase as well. Adjustable-rate loans may have a lower introductory interest rate than fixed-rate loans, making them ideal for borrowers who plan to pay off the loan early before the interest rate can go up.

Co-signed loans

If you can't qualify for a loan on your own, the lender may require a co-signer. When someone co-signs your loan, they bear equal legal responsibility for the debt. If you fail to make payments on time, the lender reports negative activity, lowering your credit score as well as your co-signer's credit score. If you default on the loan, the lender can hold your co-signer responsible for the debt.

Debt consolidation loans

If you have several high-interest debts, you may be able to pay them off using a single debt consolidation loan. This type of personal loan lets you make a single payment each month at a (hopefully) lower interest rate.

Personal lines of credit

With a personal line of credit, a lender gives you access to a certain amount of money that you can borrow over time. You pay interest only on the amount of money you've borrowed. A personal line of credit may work well if you need to fund an ongoing project, such as a major home remodel.

Which type of loan is right for you?

The type of loan that’s best for your situation depends on a few factors, including your credit status, your reason for getting the loan and potential loan terms.

Credit status

Many lenders have minimum FICO credit score requirements. Credit scores in the 670 to 739 range, which fall into the "good" category, may be necessary to qualify for a low annual percentage rate (APR).

Lenders may also require you to show you have steady employment and can make the personal loan payments before approving your loan application. Before you apply for a personal loan, it's smart to check your credit history so you can identify and correct any mistakes that might be affecting your credit scores. An informal study by Consumer Reports concluded one-third of volunteers looking at their credit reports found errors.

You can get a free copy of each of your three credit reports from Experian, Equifax and TransUnion at www.AnnualCreditReport.com. If you find accounts you don't recognize or a creditor has reported incorrect information, you can ask the credit bureau to investigate the report. If the reporting lender can't verify the information, they must remove it from your credit report, which may help increase your credit score.

Purpose of the loan

Certain personal loans work better for specific goals. For example, if you want to pay off a few debts with high interest rates and unfavorable terms, a debt consolidation loan with a lower interest rate and predictable monthly payments may meet your needs. If you want to buy a classic car to fix up and sell, a personal loan with a variable interest rate may fit the situation.

Loan terms

Before accepting a loan offer, familiarize yourself with the terms to make sure they work for your financial situation. Your loan terms provide details about your interest rate, any fees you must pay, the amount and due date of your monthly payments and the number of months you'll make payments. If the loan terms aren't what you expected, you can reject the loan offer before signing the paperwork.

Bottom line

Understanding your financial situation, credit status and motivation for getting a loan will help you decide whether or not you need to borrow money, if you can get approved and which type of loan may best serve your needs. Before applying, have an idea of which types of loans are right for your circumstances, and look for a reputable lender offering those types of loans. Compare offers from multiple lenders before deciding on the right one for you.