If you’ve ever looked at the product page of a financial institution, then you may have been overwhelmed with the various financing products. From auto loans to adjustable rate mortgages, there’s essentially something for everyone.
A bank or lender makes money by lending, so they’ll work with you, within reason, to help you finance your purchase. A popular type of loan many take advantage of is a signature loan. Often referred to as a personal loan or unsecured loan. You’ll seem them at many community banks and even some national or global institutions. These are specially geared towards certain individuals and we’ll go over signature loans in detail, so you can make an informed decision.
What is a Signature Loan?
The first and most obvious question is: what is a signature loan? A signature loan is a financing option that isn’t secured by collateral, and is lent to you with a simple signature based on your creditworthiness. Sometimes called a personal loan, these typically come with a higher interest rate than a mortgage or home equity loan, but are often cheaper than credit cards.
If you are in the market for a signature loan you can likely find them at your community bank or credit union. Many larger institutions shy away from signature loans simply because it’s not their bread and butter. Community banks and credit unions like to give back to the community through loans that help you consolidate debts or simply purchase that large ticket item. While there is not collateral attached to a signature loan, they still go through an evaluation via underwriting to determine amounts and rates.
How Signature Loans Work
Now that you know what a signature loan is, here is how they work. Many application processes can be started online, but you may also visit your local bank to start as well. Information you’ll need includes:
- current address
- proof of identity such as drivers license and/or social security number
- proof of income
Each institution is different when it comes to income requirements, but a good rule of thumb is to aim for a debt-to-income ratio of 45% or lower. One main difference to keep in mind is there is no collateral involved. That means you won’t need a valuation done on your home or put your car up for collateral. This expedites the process by a few days.
Once you’ve submitted the application it will go into review by an underwriter. A loan officer will contact you with any questions regarding collections, past due amounts or any further questions. After your information is reviewed and approved, you will be sent the appropriate loan documents to sign. The final step is funding, which typically is done via ACH or wire into an account of your choosing. From start to finish, as long as you have all your information readily available, the process shouldn’t take more then a few days.
After you’ve received the funds, you are free to do with it as you please. Signature loans are essentially installment loans and will be repaid in equal payments over a determined length of time, usually around 5 years.
What Are Signature Loans Used For?
Signature loans can be used for many different things, but here are few ways you can efficiently use your loan proceeds. First is to consolidate high interest debts. The most popular is credit card debt consolidation. While signature loans tend to have a bit higher interest rate, they are often lower than credit card rates.
By consolidating your debts to a lower average rate, you will save in interest expenses over the life of your loan. Keep in mind to not use credit cards that have been paid off, otherwise you risk digger yourself deeper in debt. Another purpose of a signature loan is to make a large ticket purchase or home repair easier. If you don’t have equity in your home to tap into, or don’t want to take out a credit card, signature loans are an efficient way to finance a large purchase.
Depending on the purchase, you can keep the loan length short and have it paid off within a couple years. Lastly, it can be used to ease your cash flow. If you want to have cash on hand or know something’s coming up, applying for a signature loan is a solid way to increase liquidity.
The Good and the Bad
As with any loan, there are good and bad aspects you should consider. First, we’ll start with the not so good. As mentioned, it is a more expensive way to access financing if you don’t have a home to pull equity out of. Interest rates will typically be in the high single digits to mid-teens. What determines your interest rate is your creditworthiness and debt-to-income ratio.
If the lender views you as a risky borrower, you’ll be given a higher interest rate. Conversely, if you have reputable credit, you will be given a more competitive rate.
Another drawback is this is not a loan for emergency situations, as it takes several days for the process to complete. If you know something is on the horizon, then this may be an option, otherwise you’re better off keeping cash in a savings account or opening a credit card. Now, one of the benefits to a signature loan is it’s just that, a signature. There’s no need to put up collateral, which makes the borrowing process simpler. Unlike other loans such as title loans or mortgages, you are not putting your assets at risk should you miss a payment.
Another benefit is the accessibility to obtain signature loan financing. These are geared towards people with average credit who may not have the best financial health. It gives people an opportunity to build up their credit reputation in smaller increment loans.
How Much Can I Borrow?
Lastly, signature loans vary greatly in size depending on your needs. Each institution is different, and you’ll have to inquire. For example, an institution may only lend out 3 years for any loan $5,000 or less. On the other hand, if you borrow more than $5,000 then the length of the loan may increase to 4 of 5 years.
As for the amount, there are a few variables to consider and first is debt-to-income. Mentioned previously, a good rule of thumb is 45%. Depending on how close you are to that limit, it may determine your max loan amount. The other variable is creditworthiness, which is simply how much risk the lender is willing to take on.
Signature loan can be as high as $30,000 to $40,000 depending on the details. Funny enough, student loans are sometimes a signature loan and those can be north of six figures. Again, each institution is different, but you can comfortably get loans in the low to mid five figures.
Now that you know all about signature loans, you can go out and shop for one yourself. They are a simple and effective loan to help finance your next purchase. While they don’t have the lowest interest rates on the market, they are more efficient than a credit card and target individuals with average or slightly below average credit.