Personal Loan Contracts - What You Need to Know

When looking for a personal loan, there are a lot of important things that you need to consider. Loans that are used to buy automobiles, homes, or even some large consumer goods, are securitized by the asset itself. For example, if you buy a home and you default on the loan, the lender will eventually take possession of the house. In the case of personal loans, often the sums of money being borrowed are smaller, and in some cases, these loans can be unsecured, which means you are not required to

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What is a Personal Loan Contract?

A personal loan contract is an agreement that you will sign with the lender to borrow money. The contract, fees, and the terms of the loan can be drastically different from one lender to another, so it’s always best to shop around to get the best rates and terms to meet your financial needs.

The loan contract is a binding agreement that you and the lender sign and it states the amount that the lender will lend to you and specifies when and how the loan is to be repaid. It can be called a loan contract, a promissory note, or even a loan agreement. Regardless of what you call it, it all ends up being the same thing: a legal contract.

Types of Contracts

While there are a lot of different types of contracts, generally they fall into two categories: secured and unsecured. A secured contract simply means that you are putting up collateral for the money you are borrowing.

For example, if you are getting a personal loan but don’t have the credit to simply sign for it, you may put up your automobile as collateral. If you default on the loan, the lender knows that they can take possession of the automobile to try to recuperate their losses.

On the other hand, an unsecured loan will be a promise with a simple signature, and therefore, the lender shows more faith in you. The better your credit score, the more likely you are to receive an unsecured loan.

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Read the Interest Rate and Fee Disclosure

One of the biggest and most common mistakes that borrowers make is that they don’t read the details. The interest rate and fee disclosure are very important to understand, as the loan is highly influenced by these factors.

After all, you need to know whether the interest rate is fixed or variable, which makes a huge difference in what you end up paying over the longer-term. You can calculate the interest and how that might impact your monthly payments with our simple APR calculator.

Beyond that, pay attention to the fees involved. If you are late on your monthly payment, how much more do you have to pay? Is it exorbitant? Is there a penalty for paying off the loan too quickly? I know it sounds strange to think that you would be punished for paying the balance off too quickly, but it’s more common than you think.

Looking at the credit markets in general, another thing that you should be cautious about is shady lenders and their fees. Most of the time, lenders look and appear the same, but it’s in the details that you start to see some of the bad apples in the market.

The Main Take Away with Personal Loan Contracts

You need to keep in mind that you are in fact signing a legal agreement. In other words, if you do not pay back the loan, you will find yourself, at the very least, damaging your credit score, and more than likely, finding yourself facing some type of collection action. This can be your collateral being taken by the lender, or in extreme circumstances, can lead to a court date.

If you sign a contract, you need to make sure that you can pay the loan back without any issues. You also need to understand that not all lenders are going to be equal, meaning that you should shop around to find the fairest deal you can find. Don’t focus solely on the interest rate, because the fees can be brutal.

By taking the time to ask many questions about the fee disclosure part of the contract, you can avoid a lot of pain down the road. Remember, interest builds up over time and that’s what makes it so dangerous to ignore. A simple 1-2% difference in fees or interest rates can make a massive difference over the lifetime of debt. That's why it always pays to compare personal loan rates.

Make sure you understand all of the ramifications of taking out the loan, and then once you do, make sure that you set up some type of automatic payment if you can, eliminating the possibility of forgetting to make your payment every month. Better yet, see if you can pay off the loan as quickly as possible, without incurring any type of extra costs.