Six Questions to Ask Yourself Before Applying for a Loan
Do you want to finance a new car, refinance your mortgage, or maybe even apply for a construction loan to get that new kitchen you've been dreaming of? Before you ask the bank to lend you the money you need, the first thing you need to figure out is which type of loan is right for your situation. "Not all loans are created equal," says Colleen McCreary, chief people officer of Credit Karma. "The first step is to ask yourself what you need the money for. This can help you determine the best kind of loan for your situation with the most ideal terms."
Once you've narrowed down your options and know exactly what you're looking for, you can zero in on the nitty-gritty of it all to ensure you're making a smart financial move. Though borrowing money can help you get your finances on track, you never want to find yourself in a situation where you can't pay back your loan on time and in full, since that can do the exact opposite, says McCreary. "The more you can understand about the loan you're applying for before you apply and sign on the dotted line, the better prepared you'll be to pay off the loan on time and in full." As you begin comparing loans, there are a number of questions to ask yourself that will help you understand the terms, so you aren't caught off by any unexpected fees.
What is the interest rate?
Interest rates and fees can make a big difference in how much you pay over the life of a loan, and they vary widely from lender to lender, says McCreary. In general, the better your credit, the lower your interest rate will be, so use a free service, like Credit Karma, to make sure you know where you stand before applying.
Are there any fees associated with the loan?
Before you sign any loan offer, check if the lender charges any fees—origination fees, late-payment fees, insufficient-funds fees, and more. Even if they don't sound monumental, remember that they can add up during the life of the loan.
Does the loan have the most affordable terms?
When comparing lenders, take a good, hard look at the loan terms to ensure you understand the full picture of what you'll owe. "Things you'll want to review include interest rate and APR, collateral, fees, the loan term, how much the monthly payment is, and the total amount," says McCreary.
What is my monthly payment—and can I afford it?
"Your monthly payment is the amount you pay each month until your loan is paid off," says McCreary. Make sure it fits comfortably into your household's budget, so that you can pay other bills while repaying this debt. To help determine your monthly payments for more basic loans, there are some online calculators like Credit Karma's Simple Loan Calculator.
What happens if I can't pay back the loan?
Even if you don't think you'll have any issue making your monthly payments, you should understand the worst case scenario before you apply for a loan, so you understand how you'd be penalized if things go south, says McCreary. And, of course, if you don't think you'll be able to pay back the loan from the onset, you may want to reconsider applying for that loan.
Will a creditor perform a hard credit check that will affect my credit scores?
"A lender may pull your credit as part of the application process, which is known as a hard inquiry and will usually lower your credit scores by a few points," says McCreary. "Generally speaking, hard inquiries stay on your credit reports for about two years." Ask the lender if they plan to pull your credit and know that it may have a temporary effect on your credit scores.