Personal loan rates can be drastically different for a borrower with excellent credit versus one with bad credit, so what’s considered a “good” APR on a personal loan will depend on your credit score and debt-to-income ratio, among other factors.
The lower your personal loan APR, the less money you’ll pay in financing costs over the life of the loan, so getting a competitive rate is an important part of the borrowing process.
[Read: Best Personal Loans.]
What Interest Rate to Expect on a Personal Loan
Personal loan APRs typically run from 6% to 36%, but the average rate depends on the loan length and amount, as well as the applicant’s credit score, income and outstanding debts.
Interest rates tend to be lower for borrowers with very good or excellent credit who are applying for shorter-term personal loans, while rates run higher for those with bad credit or who are seeking a longer repayment period.
Interest rates for personal loans are also influenced by greater economic conditions. Personal loan rates have risen over the past few years as the Federal Reserve implemented a series of 11 rate hikes in 2022 and 2023 to combat inflation.
The average rate on a two-year personal loan was 11.92% in the second quarter of 2024, compared with the record low of 9.38% seen in 2021, according to the Fed. However, the central bank is expected to cut rates several times over the next 18 months, which could bring personal loan APRs down, as well.
How Do Personal Loan Lenders Determine Your Interest Rate?
Your interest rate is the borrowing fee that the personal loan lender charges to issue you credit. The minimum personal loan interest rate is typically the federal funds rate plus a number of points, depending on your calculated risk as a borrower. Personal loan lenders determine your unique interest rate based on a few factors:
— Credit score. Although the formula is far from perfect, your credit score is a number that lenders use to gauge the likelihood that you’ll repay a debt. If you have a credit score of 800 or above, the lender can safely assume that you are a trustworthy borrower based on your existing credit history. But if you have a low credit score, the lender may see you as a risky borrower, particularly if you’ve previously been delinquent or defaulted on a debt. That additional risk will reflect in a higher rate, or the lender may deny you credit.
— Debt-to-income ratio. Your debt-to-income ratio, or DTI, is the percentage of your monthly income that’s used to pay existing debts. A lender may look at this figure to determine how much of your income after paying other debt obligations can be used to repay the debt you’re applying for. If you have a DTI above a certain threshold, lenders may be less inclined to grant you credit — or they’ll approve you for a loan with a much higher interest rate.
— Loan terms. The terms of credit you’re applying for, such as the loan amount or loan length, can also have an impact on the interest rate you’re offered. For example, a smaller loan amount on a shorter repayment term may be seen as less risky to a lender, resulting in a lower interest rate. But if you’re borrowing beyond your means and spreading that debt repayment over a long stretch of years, then a lender may determine that the risk is higher.
— Collateral. Personal loans are typically unsecured, which means they don’t require the borrower to put up an asset as collateral. But some lenders offer secured personal loans, which are backed by collateral like a certificate of deposit or car title. Unsecured loans usually have higher rates than secured loans since the lender doesn’t have a way to recoup the costs if the borrower goes into default.
[Read: Best Low-Interest Personal Loans]
How to Get a Low APR on a Personal Loan
The first step toward getting a good personal loan rate is to see what you qualify for through prequalification. Most — but not all — personal loan lenders let you get prequalified and see your estimated interest rate and monthly payment. You can prequalify with a soft credit inquiry, which won’t impact your credit score. That way, you can compare estimated rates across several lenders to find the best possible offer for your financial situation.
Once you have a better idea of the personal loan rate you can expect, you might want to take a few additional measures to get a lower APR. Here are a few strategies for lowering your interest rate:
Improve Your Credit Score
Since your credit history plays such an important role in determining your personal loan rate, it’s a good idea to work on building a better credit score before applying, especially if you have fair or bad credit. Here are a few ways to boost your credit score:
— Pay down credit card debt. One of the most important factors of your credit score is the credit utilization rate, which is the amount of credit card debt you owe compared with your credit limit. For example, if you have $500 worth of debt on a credit card that has a $2,000 limit, your utilization rate for that account is 25%. The lower your credit utilization, the higher your credit score.
— Open a secured credit card. Secured credit cards let you borrow from a line of credit that’s backed by a cash deposit. Let’s say you put down a $500 deposit — that means you can borrow up to a $500 credit limit. A secured credit account can help you build an on-time payment history and improve your credit score over time.
— Become an authorized user. If you have a thin credit file, meaning that you have too few accounts or that your debts are all too recent, then it may help to become an authorized user on a friend or family member’s credit card account. This can help you establish a longer credit history of on-time payments and improve your credit utilization ratio, but first make sure that the account in question is paid off regularly each month.
You may also be able to find room for improving your credit history by examining your credit report. You can request a free copy of your credit report from all three credit bureaus (Equifax, Experian and TransUnion) on AnnualCreditReport.com. If you find any errors on your credit report, you can dispute them with the bureau directly.
[Read: Best Debt Consolidation Loans.]
Search for a No-Fee Personal Loan
Since a personal loan’s APR includes the interest rate and other fees, you can potentially get a lower APR through a lender that doesn’t charge an origination fee. There are plenty of personal loan lenders that don’t charge origination fees, such as SoFi, LightStream and Discover, to name a few. You can also check with credit unions, which usually offer competitive rates and low or no fees on personal loans. With a no-fee personal loan, your APR and your interest rate will be the same number, since you aren’t paying a one-time financing charge.
Choose a Shorter Loan Term
A shorter loan length, for example a two-year term instead of a five-year term, may help you lock in a lower interest rate. Additionally, you’ll be making fewer interest payments over time, which translates to significant savings over the life of the loan. However, keep in mind that your monthly payments will be higher if you opt for a shorter repayment period. Use a personal loan calculator to ensure you can afford the payments on a short-term loan.
Put Up an Asset as Collateral
Secured personal loans tend to come with lower interest rates than unsecured personal loans because the borrower is able to put up an asset as collateral that can be seized if the borrower doesn’t repay the loan. Banks and lenders may let you put up a CD or car title as collateral to reduce your risk as an applicant, which can also lower your interest rate. Keep in mind that, with a secured loan, you run the risk that you’ll lose the asset used as collateral, so you should be confident in your ability to make payments if you choose this route.
Apply With a Creditworthy Co-Signer
If you can’t qualify for a good personal loan interest rate on your own, you may be able to apply with a creditworthy co-signer, such as a dependable friend or relative. Keep in mind that your co-signer is equally responsible for repaying the debt, so you’ll want to make sure you don’t miss any payments — that could potentially jeopardize trust in you, turning a personal relationship into a business transaction.
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What Is a Good APR on a Personal Loan? originally appeared on usnews.com
Update 09/13/24: This story was previously published at an earlier date and has been updated with new information.
