Personal loan with bad credit: what a high APR really costs

With a credit score in the 500s or low 600s, a personal loan is often still possible, but expect a high APR, a possible origination fee and a smaller amount than you asked for. The safer sources are credit unions, loans secured by your own savings, and a cosigner who understands the risk. The ones to avoid are payday loans, car title loans and any “lender” that wants a fee before you get the money. On $4,000 repaid over two years, the gap between an APR of 25% and one of 99% is $1,123.67 versus $5,308.74 in interest.

What a high APR costs on $4,000

Lenders price risk, and a low score puts you in a group they expect to default more often, so you pay more. To see what that means in dollars, here is a $4,000 loan repaid over 24 months at several APRs. The APRs are examples covering the range a borrower with weak credit might be offered:

For comparison, this is the Federal Reserve’s average APR on a 24-month personal loan at commercial banks, which mostly reflects borrowers with stronger credit:

Some lenders also charge an origination fee, often deducted from the loan before you receive it. With a 5% fee, you would need to borrow $4,210.53 to receive $4,000, and you pay interest on the full amount. The APR includes the fee, so compare APRs rather than interest rates; how a fee shifts the comparison is worked out in APR vs. interest rate. Federal law caps the cost of most consumer credit to active-duty servicemembers and their dependents at a Military Annual Percentage Rate of 36%, and many states set their own rate caps for everyone.

Start with a credit union

Credit unions are member-owned, and a credit union where you already bank can weigh your income and your history with it, not just your score. You need to qualify for membership, usually through where you live, work or worship, or a group you belong to; the NCUA Credit Union Locator shows the ones near you.

For smaller amounts, federal credit unions can offer payday alternative loans. A PAL II lends up to $2,000 over one to 12 months at an APR capped at 28%, with an application fee of no more than $20. At the cap, $2,000 over 12 months costs $316.14 in interest. Not every credit union offers PALs, and they will not cover a $4,000 repair on their own, but one can cover part of it. The full rules are in payday loan alternatives.

Secured loans and cosigners

If you have money in savings, a share-secured or certificate-secured loan from a bank or credit union lets you borrow against it at a low rate, because the lender holds your deposit as collateral. If the lender reports it to the bureaus, it also builds payment history. The catch is that the deposit stays frozen until you repay.

A loan secured by a car you own can also be cheaper than an unsecured loan, but if you lose your job and fall behind, losing the car can cost you the way you get to work. Pledge only what you could afford to lose. The trade-off is laid out in secured vs. unsecured loans.

A cosigner with good credit can get you approved at a better rate, but the debt becomes fully theirs too, and any late payment lands on their credit reports. Read what cosigning means together before anyone signs.

Shopping online lenders without wrecking your score

Many online lenders let you prequalify with a soft credit check, which shows an estimated rate and does not affect your score. Prequalify with several, then submit a formal application, which usually means a hard inquiry, only to the best one or two. Do not assume multiple personal loan applications will be counted as one inquiry. More on that in what a hard inquiry really costs.

When the offers arrive, compare the APR and the total of payments for the same term, and read the disclosure for the origination fee and any prepayment penalty. Check that the lender is licensed in your state; your state’s financial regulator usually has a lookup.

Loans to avoid

• Payday loans. A typical fee of $15 per $100 for two weeks works out to an APR of almost 400%, according to the CFPB, and the cost multiplies each time the loan is rolled over.
• Car title loans. These short-term loans use your car as collateral and carry triple-digit APRs. In its 2016 study of single-payment title loans made from 2010 to 2013, the CFPB found that one in five borrowers had their vehicle seized, and more than four in five loans were renewed the day they were due.
• Advance-fee scams. The FTC warns that banks and other legitimate lenders will not promise or guarantee you a loan before you apply. Legitimate lenders can charge application or appraisal fees, but no real lender will tell you that paying a fee is what gets you the loan. A request to pay by wire transfer, gift card or cryptocurrency is a sign of fraud. Report it at ReportFraud.ftc.gov; the FTC’s guide to advance-fee loans has the details.

Before you borrow

1. Ask whether the bill itself can be split. A mechanic, hospital or utility may accept a payment plan, which costs less than any loan; see hardship programs for how to ask.
2. Pull your free reports at AnnualCreditReport.com and dispute errors. Under the FCRA the bureaus generally have 30 days to investigate, so this helps most when you can wait a month.
3. Write the payment into your budget before you sign. If $236 a month for two years does not fit, a smaller loan or a longer search is better than a missed payment.
4. Plan to pay early if you can, after confirming the loan has no prepayment penalty.