You have selected a valid justification for having a personal loan and have decided that you are likely to be able to apply. The next step of the loan application process is for you to start researching lenders that can provide competitive terms and attractive interest rates.
You will want to consider the variables that can impact the interest rate on personal loans. This will help you to shore up your profile when applying for a loan by taking clear measures like:
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To lower the credit usage level by paying off outstanding revolving debt.
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Extra income opportunities to reduce the debt to income ratio.
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Putting up assets to be placed as collateral against the principal of your loan.
Rate of Interest vs APR
Rate of Interest
The interest rate on personal loans is the interest fee on its principal balance. It is expressed as a percentage, such as 9% or 10%. The cumulative numerical interest charge of the loan is a function of the compounding frequency or the amount at which interest is measured on the balance of the principal and accrued interest of the loan, the sum of the interest you may expect to pay for the duration of the loan, assuming no prepayment. Cumulative interest charges rise with compounding frequency. You can use a Personal Loan interest calculator to calculate the interest you’ll pay while availing a personal loan.
APR
The APR of your debt requires interest charges and loan fees. It is often expressed as an amount (in percentage) that is always either equal to or greater than the interest rate of the loan.
The processing fee, expressed as a percentage of principal is the main fee personal loan borrowers need to look after. The processing fee will range from around ₹ 1,000 to 4 % of the loan sum in the case of an unsecured loan. For well-qualified borrowers, specific personal loan lenders waive off processing fees but not if your credit is not excellent.
Components that make up your credit score
Track record of Repayment
It makes up 35% of your score. Even a single missed payment is a big demerit, but making timely payments on all debts, lines of credit, and non-debt commitments that could impact your credit report, such as service payments, is the safest way to guarantee a high sum here.
Utilisation of Credit
This is responsible for 30 % of your score. It’s determined by dividing the amount of your available credit lines by your overall revolving debt accounts, such as credit card and home equity line balances. Lenders favour lower credit usage rates and aim to keep yours below 50%.
Credit Length History
It reflects 15 % of your score. More extended credit length history, better your chances of availing a low rate of interest.
Credit Mix
It reflects 10 % of your ranking. The model attributes lower risk to instalment debt (Fixed-rate vehicle loan) than revolving debt (Credit card) while opening a credit card account or two won’t destroy your credit.
Factors affecting interest rate on personal loan
Ratio of Debt-to-Income
Debt-to-income ratio is the sum of the total income divided by debt commitments. For instance, your debt-to-income ratio is 50 % if you have ₹ 33,000/ month in debt service payments, and your gross monthly salary is ₹ 66,000. Most personal loan lenders prefer a lower debt-to-income ratio.
Employment Status
Lenders favour applicants with secure jobs and a good income. Borrowers with low wages seldom qualify for the best interest rates. Lenders usually look for a work history of 24 months but can go back further.
Loan Amount
As they entail more risk for lenders, high-principal loans can have higher rates than low-principal loans. However, for borrowers they consider unqualified, many lenders would necessarily not finance high-principal loans. As compared to excellent credit, whether you have fair or even good credit, you can find your loan offers capped below where you’d like them to be.
The Collateral
Secured loans, loans backed by collateral forfeited by the borrower will always have lower interest rates than unsecured loans and are far more costly for borrowers.
Most personal loans are unsecured. If you are considering taking out a personal loan to fund a cost that could be financed by a secured loan as well first evaluate your secured options.
Lender & Credit Ratings
The most significant factor in deciding your interest rate on personal loan is your creditworthiness represented by your credit score.
Some lenders mainly cater to prime and super-prime borrowers, others primarily cater to near- and subprime borrowers and some cater to a wide variety of credit profiles. Usually, lenders concentrating on the below-prime market have higher interest ranges than lenders focused on prime borrowers alone. In any event, the majority of lenders depend on the credit score model to determine the creditworthiness of the borrower.
Conclusion
Each lender follows its own method, minor variations in borrower scoring models can create noticeable developments to the interest rate on personal loans and terms offered. Search for the lowest possible personal loan rate and compare the rates with as many different lenders as you can to get the best possible deal. Use a Personal Loan Interest calculator to make an idea of the extra amount you’ll have to pay.
