At a point or the other, it is possible to be faced with some financial difficulties or challenges that require you to look for money outside your routine income just to address some pressing needs. These needs might include emergencies, medical bills, buying a house, paying for school, purchasing equipment, consolidating, or paying off other loans of higher interest rates. Whatever the need is, your best option at that moment is to opt for a loan. There are various loans to choose from, however, the most flexible and easiest of them all is the personal loan which includes signature loans. This article takes a detailed look at the signature loan and some risks every borrower must know before opting for one.
Source: Forbes.com
Contents
What is a Signature Loan?
Also known as “character loan,” a signature loan is a type of loan offered by banks and other financial establishments using only the borrower’s signature without requiring collateral.
Before providing a signature loan, the lender conducts a thorough credit assessment of the qualification of a potential borrower. The assessment is aimed at ensuring that he or she has a substantial credit history and adequate income to repay the loan collected.
The borrower, on the other hand, is sometimes required to bring in a witness or co-signer who could be held accountable when he or she refuses or is unable to pay back the loan. In addition, it is vital to note that the interest rate of a signature loan is usually on the high side due to the absence of collateral.
Risks of Signature Loans
Signature loans are unsecured loans. This is because they do not require collateral like other forms of loans. According to ustatesloans.org, just like everything with benefits, these types of loans come with some risks that every potential borrower must be aware of before opting for one.
Some of the risks and red lights to look out for when trying to secure a signature loan are:
1. High-Interest Rate
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The biggest risk with an unsecured loan like a signature loan is high-interest rates. Before accepting a signature loan, ensure to check out the annual percentage rates (APR) and make comparisons. Carefully look through the total amount you will pay on the loan, including interest, fees, and principal, over the life of the loan. This is a good way to adequately measure the loan’s ultimate cost. Note that some lenders can manipulate the APR. Some personal loans come with interest rates lower than 10%, while others are three or four times greater. However, for signature loans, the interest rate usually depend on factors like credit score while some lenders charge whatever they want, as long as the rate conforms to the laws.
2. Bankruptcy
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When you fail to pay off a signature loan, you may stand the risk of bankruptcy. In a secured loan, the asset you placed as collateral may be confiscated. When you default to pay off a signature loan, you may face a much bigger problem which is bankruptcy. Even though you can try loan consolidation, negotiation, or other methods first. However, if your depth is way too big the only option may be bankruptcy.
3. Early-Payoff Sanctions
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Try to know if you are allowed to pay the loan off early or if there is a penalty for doing so. This is because some lenders do not favor early payoff. This is to enable them to accumulate a lot of interest, therefore they tend to sanction you for opting out.
4. Magnified Credit Affects
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Whether you pay off your loan on time or default on your loan, the results of a signature loan will be amplified on your credit score. Therefore, timely pay off of a high-risk, unsecured loan consistently without missing a payment will drastically boost your credit score. However, missing payments and getting into too much debt on this risky loan will be bad for your credit score. It’s advisable that you have an income high enough to guarantee payment before taking a loan. It is best to save funds for emergencies and unexpected expenses that may require you to borrow.
5. Privacy Considerations
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It is best to get your loans from lenders that would respect privacy laws. Though Banks and financial institutions usually come with strict privacy rules, other lenders may be considerably less formal.
6. Upfront fees
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Also, find out what it costs to get the loan into your bank account. There are many lenders out there with varying terms and upfront origination fees for loans can differ widely. Make sure that any upfront fees you are paying are fair and in line with market standards.
7. Enticing Offers
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Some personal loans come with tempting offers and sales pitches for additional insurance to protect the loan just in case an emergency gets in the way of your ability to repay. If you want insurance for that purpose, call a trusted agent and get a quote on general disability insurance. It’s most likely cheaper and has better coverage.
8. Precomputed Interest
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How is the interest calculated? Is it simple or precomputed interest? Ensure to ask the lender how the interest is being computed. A precomputed interest uses the first computed payment plan when determining the total interest due for payment. While simple interest looks at what you owe today and computes your interest on that figure. If you hope to pay off the loan early, you should choose a simple interest.
9. Unnecessary Complications
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A personal loan should be simple to comprehend. If a loan comes with a lot of enticing offers such as payment holidays, cashback offers, etc. That could be a way to extort you. So ensure you are absolutely clear with the terms of payment.
Conclusion
Due to the lack of sufficient knowledge and awareness in loan processes and operations, the lenders gain more largely from loans as against the borrowers. It is necessary therefore that you critically analyze any loan offer using the listed yardsticks to ensure that the loan you intend to take does not end up putting you into further crises instead of serving as financial leverage and remedy to solving a need. Also, make sure that whatever you want to take the loan for is indeed a pressing need and not just a want otherwise it would be best to save up and get the want to avoid all the risks involved in taking a signature or personal loan.
