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An installment loan is a very common type of loan, and you might already have one without knowing what it’s called.
Simply put, an installment loan is a loan where the borrower borrows a certain amount of money from the lender. The borrower agrees to pay the loan back, plus interest, in a series of monthly payments.
The big difference between installment loans and “revolving” debt like credit cards or a home equity line of credit (HELOC) is that with revolving debt, the borrower can take on more debt, and it’s up to them to decide how long to take to pay it back (within limits!).
Types of installment loans
Signing up for an installment loan means that you and the lender reach an agreement regarding the amount of the loan, the interest rate, and the length of the loan. Some common installment loans include the following:
How to qualify for an installment loan
Lenders will typically run your credit score to determine your eligibility for a loan. Some loans will also require extensive background information.
A car loan might only require your current address and a short work history, while a home loan will require a lengthier work history, as well as bank statements and asset information.
A student loan might require information about your school, as well as information about your parents finances.
Borrowers can usually expect to qualify for an installment loan if they’ve established good credit, have a job, and are in good financial standing. Many times a co-signer can be added to the loan to increase eligibility and decrease interest rates.
Interest rates and loan eligibility increase with better credit scores, higher annual income, and lower debt-to-income ratios (DTI). Lenders look at your credit score to determine credit worthiness, and whether you are a financial risk. They look at your DTI ratio to determine how much you can responsibly afford to borrow.
Before applying for an installment loan
It’s crucial to know your credit score before you go through the loan process. If you know your credit score before you apply for a loan, you’ll be better prepared.
For example, if your credit score is only a few points shy of being excellent or very good, then waiting a few months will give your score time to increase. Knowing your credit score ahead of time gives you a chance to dispute any errors.
Know your lender options before filling out an application, too. Many car dealers will want you to take on a loan with their financing department. Keep in mind that the interest rates on loans offered through car dealers can be much higher than those charged by your local credit union or bank.
How to better your chances of qualifying for an installment loan
To make yourself better eligible for a loan or lower interest rates, take a look at your financial situation. Find out your credit score and tally up your debts. To raise your credit score, you can make payments and dispute any errors.
To decrease your debt-to-income ratio, pay down some of your debt. A co-signer with excellent credit will also help you secure a bigger and better loan or a lower interest rate.
Installment loans are a great way to pay for something that you do not have the cash for. Remember that the longer you secure your loan for, the smaller your monthly payments will be.
However, longer loan terms also mean higher interest rates, and you will pay more in interest over the life of the loan.