5 common types of installment loans
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An installment loan allows individuals to borrow a predetermined amount of money upfront in a lump sum. It also gives borrowers the ability to pay off the balance in equal monthly payments, or installments.
Unlike credit cards or lines of credit, installment loans are close-ended debt products. The borrower receives the entire balance at once and if there’s more funding needed, it’s up to the individual to apply for another loan or negotiate with the lender.
5 most common types of installment loans
Installment loans are one of the most common ways to finance large purchases. While they all operate similarly, the most common installment loans have different functions and interest rates.
While personal loans are the most common installment loans, auto loans, student loans, buy now, pay later loans and mortgages are also popular — and sometimes necessary — financing options.
1. Personal loans
Personal loans can be used for essentially every legitimate expense and are offered by banks, credit unions and online lenders. The balance is repaid in fixed monthly installments, but should an emergency occur and you’re unable to make the payments, some companies offer hardship payment relief or alternative repayment plans.
There are lenders that offer personal loans for nearly every expense — from weddings to jewelry to vacation-related purchases — but not every lender or financial institution will offer loans for the same purpose. Some companies have restrictions on what the funds can be used for, so make sure your needs are met before signing on the dotted line.
2. Auto loans
Auto loans are taken out specifically for the purchase of a car or related vehicle. While many dealerships offer in-house financing, credit unions, banks and online lenders also offer auto loans if you’re in the market for a lower rate, repayment flexibility or are looking to refinance.
Before applying, conduct a financial audit and craft a repayment plan that works with your budget. Auto loans are a secured debt, which means that the loan is backed by your vehicle as a form of collateral. If you default on your loan, the bank has legal authority to seize your vehicle to satisfy the delinquent debt.
3. Student loans
Student loans are used to finance a college education and related expenses, like books, supplies, housing, food and tuition. Offered by both the federal government and online lenders, nearly 43 million borrowers currently hold student loans in the country.
Federal student loans are offered by the Education Department through one streamlined application. Federal loans are available to every borrower attending an eligible U.S. college or university and all carry the same fixed interest rates. Due to the unique benefits and protections available to borrowers, it’s best to turn to federal loans before looking at private debt.
Private student loans base your approval odds and interest rates on your creditworthiness and can be difficult to get approved for as a student. Unlike federal student debt, private loans are disbursed by a number of financial institutions and online lenders. Each company will have different eligibility requirements and interest rate ranges, so shop around to make sure you’re getting the best rate for your situation.
Mortgages are offered by a number of institutions, from national banks to credit unions to online lenders. There are five main types of mortgage loans, including fixed-and adjustable-rate options, larger loans — also referred to as jumbo loans— government-insured mortgages and conventional loans.
Mortgages come in 15- and 30-year options; the 15-year option will allow you build equity and pay down the loan faster, while a 30-year mortgage gives your wallet some breathing room in the short term by charging a lower monthly amount.
5. Buy now, pay later loans
Buy now, pay later (BNPL) apps break up the cost of a purchase into installments so that people can afford more than they otherwise would be able to without the loan. Most retailers — especially online retailers — now offer some form of BNPL options.
With a positive repayment history, BNPL loans often don’t charge interest or fees. Plus, they’re a convenient way to afford purchases without racking up credit card debt and can be easier to get approved for than a traditional personal loan.
There are different types of BNPL loans. Some companies require a hard credit check while others don’t, and some companies may report your repayment habits to the credit bureaus to help you build your credit score. However, a potential downside of these loans is that borrowers may be tempted to finance more than they can afford.
Pros and cons of installment loans
Just like every other type of financing option, installment loans have both advantages and disadvantages. Here’s what you need to know before you make a final decision.
- Most borrowers will see a credit increase with a positive repayment history.
- Loans often come with lower interest rates than lines of credit.
- The repayment schedule is predictable and fixed.
- Fees may be higher for those with less-than-ideal credit.
- Interest rates on variable-rate loans could ebb and flow with the Fed’s behavior.
- Late or missed payments can have negative credit consequences.
What credit score do you need for an installment loan?
While each company and loan type will require different credit scores, it’s generally required that borrowers have a minimum credit score in the low to mid 600s. However, those with a credit score in the mid 700s and into the 800s will be eligible for the most competitive rates and terms.
If you have a less-than-stellar score or a thin credit history you can still get approved for an installment loan, but it may be more difficult to find a lender or company with relaxed eligibility requirements. While there are lenders that offer bad credit loans, the interest rates and fees are often on the higher side.