A personal loan agreement is a general-use contract that establishes one person’s obligation to repay another for borrowed money. It can be formed between a person and a lender (such as a bank or credit union), a friend, or a family member. Lower value personal loans are often unsecured (meaning the borrower isn’t required to put up an asset as collateral). The terms and conditions included in the contract spell-out the amount of the loan, how the borrower will repay it, the interest rate, and rules in place for certain scenarios (such as a missed payment).
A personal loan agreement is a form that creates a legal obligation for one person to repay another person or entity money that was lent to them. There are two (2) general types of personal loans: secured and unsecured. A secured loan requires the borrower to guarantee an asset that the lender can legally acquire should the borrower default on the loan, whereas an unsecured loan does not.
Individuals can pursue obtaining a personal loan for many reasons, which include:
- Consolidating debt
- Repairing / renovating a home
- Medical bills
- Financing a vehicle
- Helping out family or friends
- Paying for a funeral
- Divorce costs
- And much more.
Yes, a borrower can pay off the full balance of a personal loan anytime they wish. However, if the contract includes a prepayment penalty, the borrower could end up having to pay more than the remaining loan balance itself. The purpose of a prepayment penalty is to ensure the lender profits from writing the loan in the first place, as they lose out on collecting interest if a borrower pays early.
When creditors run a hard credit check in order to determine if the borrower is worthy of lending to, that check will temporarily lower the applicant’s credit score. However, the person’s score will almost always return to where it was before within a few months.
Having said, once the lending process has begun, if the lender misses a payment or defaults on the loan, that will drastically damage the borrower’s credit score.
A credit score is generally considered poor if it falls under 670. Those looking to obtain a personal loan through an official financial institution may find it difficult to qualify, and if they do qualify, they will often find the rates they receive are unfavorable. Aside from taking the standard (long-term) steps to improve one’s credit score, a borrower can do the following to improve the rates they receive from lenders:
- Add a co-signer
- Provide collateral (ex: your personal vehicle)
- Extend the loan’s due date