What is a Signature Loan? Pros, Cons & Alternatives

What is a Signature Loan? Pros, Cons & Alternatives

What is a signature loan and how does it work? To put it simply, this tool can be a great way to get through a sticky financial situation. In fact, you may prequalify for favorable...

What is a signature loan and how does it work? To put it simply, this tool can be a great way to get through a sticky financial situation. In fact, you may prequalify for favorable signature loan terms based if you have a good credit score and a steady source of income.

Because this type of unsecured personal loan only requires your signature, a lender will likely conduct some type of credit check. More likely, a signature loan without a hard or soft credit inquiry will be structured as a payday loan, cash advance, short-term loan, or another type of no credit check loan.

Whether you have unexpected expenses like medical bills or you need to pay for a home improvement, a signature loan may be the way to go. But before you make any major financial decisions or accept any loan offers, learn more about the various types of personal loans and how the process to obtain a signature loan works.

What is a signature loan and how does it compare to other types of personal loans?

Wondering what your loan options are? Let’s explore the differences between signature loans and a few alternatives:

Signature loan

Also known as a good faith loan or character loan, a signature loan does not require any collateral (an asset a lender accepts as security). If you fail to make your loan payments, the lender has no collateral to collect or seize. This is different from an auto loan, where neglecting to pay your monthly installments can lead to your car being repossessed.

A signature loan will usually require a credit report because the lender must make an informed decision based on your credit card debt, payment history, and other factors. Loan amounts generally range between a few thousand dollars to $10,000. 

While the annual percentage rate (APR) for some signature loans can be as high as 36%, you should be able to obtain a significantly lower interest rate if you’re in good financial standing. Similar to offline and online installment loans, signature loans are usually repaid in portions throughout the term of the loan.

Payday loan

A traditional payday loan is an unsecured personal loan that‘s usually repaid within a few weeks—typically on the borrower‘s next payday. Because they usually have an APR of 400% or more, payday loans can be considered a type of signature loan that‘s meant to be used for emergency expenses or last-resort option.

Some payday loan lenders, especially online lenders, run credit checks. However, others do not. In either case, bad credit or less-than-perfect credit is usually acceptable, so you don’t need a great FICO score to apply.

You’ll need to bring proof of income, a state-issued ID, and a post-dated check or information on your checking account when you’re applying for your payday loan.

Title loan

A title loan is a secured loan that uses your car as collateral. APRs tend to be over 100%, and the term of the loan is usually short.

Title loans are usually used as a last resort and are considered expensive compared to signature loans and other forms of borrowing.

What can you use a signature loan for?

The borrower has the choice to use the funds from a signature loan for a variety of financial situations, such as:

  • Emergency expenses
  • Debt consolidation
  • Home improvements
  • Major purchases
  • Ongoing expenses

Usually, there is no restriction on how the funds are utilized.

Terms for a Signature Loan

From loan rates to late payment fees, here are some key components to keep in mind as you explore your signature loan options:

  • Interest rate: The interest rate on your signature loan will drive how much you ultimately pay. You’ll need to understand how the interest rate converts into an annual percentage rate (APR) on your loan. There are usury laws in many states and as for some states ban signature loans or unsecured loans over a certain APR. Remember, a high-interest rate loan can become quite costly and may not be the best route for you to take.
  • Loan term: The term is the length of the loan. It can vary from a few months to multiple years. Some unsecured loans can even have a term of five years! How long the loan is outstanding has a direct relation to how much risk the lender is willing to take. In general, the longer the term of the loan, the higher the risk for the lender.
  • Origination fee: Some lenders will charge a fee for originating the loan. Usually a one-time assessment, the origination fee adds to the overall cost of your loan. In many cases, this fee is deducted from the loan amount you borrow so the actual amount you receive from your signature loan may be lower than the amount you were approved for.
  • Early payoff fee or prepayment penalties: Some lenders may charge a fee for paying your loan off early. This is called an early payoff fee or prepayment penalty. In some states, an early payoff fee is illegal. However, paying off the loan early may still be a sound financial decision since you can avoid racking up more interest charges.
  • Late payment fee: A late payment fee can be avoided by paying the principal and interest on your signature loan on time. Your credit score can also take a dip if you do not pay on time because the lender will report late monthly payments to the credit reporting bureaus.

Benefits and Risks of a Signature Loan

As with any major financial decision, there are pros and cons to obtaining a signature loan. Here’s a quick rundown of what you need to consider:

Benefits

  • A signature loan or personal loan has APRs that vary from 5% to 36% and in comparison to payday loans and other short-term loans, the interest is much lower.
  • If there is no credit check, especially for those with bad credit or no credit, that’s great! However, most signature loans will run some type of credit check and have minimum credit scores.
  • You’ll have multiple periods to repay. Loan terms for signature loans can range from several months to several years.
  • Most direct lenders will report credit history to the credit reporting agencies like Experian, TransUnion, and Equifax. For example, if you have a loan from Possible Finance, as you repay the loan in installments, Possible will report your payments to two credit bureaus. And you don’t need good credit to qualify.

Risks

  • Funding can usually take several business days. Rarely will you be able to receive funds from a signature loan the same day you fill out your loan request, apply, and get approved.
  • If you fail to pay, your credit score and credit history may be impacted. The lender will report failed payments to the credit bureaus and it could impact your long-term financial health.
  • There can be additional fees and charges related to getting a signature loan, such as an origination fee.
  • Most signature loans have a minimum credit score or some type of credit check. It may happen with a certain term length or loan amount.

Signature loan application process

You can apply for many signature loans and unsecured personal loans online. Or, you can visit a potential lender like a bank, credit union or other financial institution in person.

What is a signature loan application process like? Here’s what you’ll need:

  • State-issued ID
  • Proof of income or credit reports
  • Social Security Number

Most lenders will run some sort of credit check to help determine whether to lend you money. A hard inquiry may affect your credit score and is usually performed just prior to giving the borrower a loan. A soft inquiry does not affect your credit score but will show up on your credit reports.

Some lenders will require a minimum FICO score of 650 or 700. However, other lenders—including Possible—won’t check your FICO credit score. Instead, they will use bank account information or other available data to make the lending decision.

Online or mobile applications can take just a few minutes. After the loan application is submitted, a few lenders may get back to you instantly, but most will probably take a few days.

Possible Tip: If you are looking to rebuild credit or improve your credit score to qualify for a signature loan, you should first look into a credit builder loan.

Signature loan alternatives

  1. Possible loan: Possible has a mobile-only installment loan that allows you to borrow up to $500 and help build your credit history. If you have trouble making a monthly payment, you can reschedule it directly in the Possible mobile app on the iTunes App Store or Google Play Store.
  2. Payday loan: With a payday loan, you can borrow up to $1,000 with just a paystub (proof of income), post-dated check and a state-issued ID. You can apply for payday loans online or at a lender with a storefront. Be sure to compare APRs, repayment terms and fees between various payday lenders. Payday loans have higher interest rates than most signature loans.
  3. Payday alternative loan (PAL): Credit unions may offer payday alternative loans which are similar to payday loans, except the APR is much lower. To qualify for a PAL, you’ll need to have an account with the credit union, and there may be other requirements.
  4. Personal line of credit: A personal line of credit allows you to take money as you need it up to a certain limit. You won’t need to decide the amount of money you need to borrow up front. Some people call it a “personal loan that works like a credit card.” However, personal lines of credit may require a credit check and a minimum credit score to prequalify, so those with bad credit may not get approved.
  5. Peer-to-peer (P2P) lending platform: You can borrow money from everyday investors and individuals through a peer-to-peer lending platform like Lending Club or Upstart. Each one has its own qualifications to apply and get a loan. P2P loans often have fixed interest rates and monthly payment schedules, so the structure may be inflexible.
  6. Payday advance app: A payday advance app like Earnin, Dave or Brigit allows you to advance a certain amount of money from your paycheck early. These apps will often track your location and charge a subscription fee or tip for the services. If you need some money quickly and a simple payday advance before your payday can cover your needs, these apps may be the right option for you. They can solve a short-term financial need.
  7. Help from family and friends: Not the best option for everyone, but getting help from family and friends may be the cheapest and most viable option for you. Be sure to write an agreement and sign it so you don’t have family disputes crop up.
  8. Credit card: You can qualify for some credit cards even with a bad credit score. In fact, some companies allow for scores that fall below 650. Compared to a payday loan or high-interest products, a credit card will tend to have a cheaper APR.
  9. Cash advance, check advance and other short-term loans: These names actually all refer to payday loans and short-term loan products. The APRs tend to be higher than other options, but lenders are less restrictive on your credit and can usually provide the money in one business day, or even as fast as a few minutes.

The Bottom Line

A signature loan can be utilized as a short-term solution. But even if you need a significant lump sum to cover unexpected expenses, it’s important to explore your options and compare loan terms and rates before you make a final financial decision. After all, there are plenty of viable alternatives that can help get you cash quickly.

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