For most people, personal loans can be an affordable alternative to credit cards and can help you fund various projects or purchases while saving interest.
Personal loans are growing in popularity, with around 21.7 million borrowers in Kenya in the first quarter of 2021, according to a financial report by TransUnion.
Whether you are looking to take out a personal loan to consolidate debt, fund a project, start a business, etc., it is important to have a clear repayment plan.
Below are 10 questions to ask yourself in order to be well prepared for a personal loan.
1. How much do I need?
The first step in choosing a personal loan is knowing how much you will need. The smallest personal loan sizes start at around Ksh. 50,000, but most lenders offer a minimum of Ksh. 100,000 Ksh. 200,000. If you need less than half a million shillings, it may be easier to save extra money upfront or borrow the money from a friend or family member if you are in need.
2. Are there any fees for the personal loan?
Personal lenders may charge a sign-up or commitment fee, but most don’t charge any fees other than interest.
A commitment fee is a one-time upfront fee that your lender deducts from your loan to cover administration and processing costs. It is usually between 1% and 5%, but is sometimes charged at a flat rate. For example, if you took out a loan for Ksh. 10,000 and 5% origination fee would apply if you would only get Ksh. 9,500 and Ksh. 500 would go back to your lender. It’s best to avoid handling fees whenever possible.
3. Do I have a good credit score?
Before you start applying for a personal loan, it is important to know your credit history to ensure that you can qualify. Most personal lenders seek out applicants with good credit ratings, especially online banks. However, if you have an existing relationship with a bank, you can be approved for a cheap deal if you have a past history of paying bills on time and following the terms of your previous loans and accounts.
Sometimes SACCOs offer lower personal loan rates and work with borrowers who have fair or average creditworthiness. But often you need to become a member and save a while before you can qualify for a loan.
4. What is the repayment method?
When you take out a personal loan, the money is usually sent straight to your checking account. However, when you are using a debt consolidation loan, some lenders offer the option to send the money directly to your other creditors, skipping your bank account altogether.
If you prefer a hands-on approach, or if you want to use the money for something other than paying off existing debts, have the money transferred to your checking account.
5. How long do I have to pay it back?
You must repay the credit company in monthly installments within 30 days. Most lenders offer repayment periods between six months and seven years. Both your interest rate and your monthly payment will be affected by the length of the loan you choose.
6. How much interest will I be paying?
Your interest rate will depend on a number of factors, including your creditworthiness, the amount loaned, and your term (length of time over which you will pay back the loan). The interest rates can be as low as 8% and as high as 20% or more. Typically, you will get the lowest interest rate if you have good or excellent credit and choose the shortest possible term.
7. Can I afford the monthly payment?
When you apply for a personal loan, you have the option to choose which repayment plan is best for your income and cash flow.
Some people prefer to keep their monthly payments as low as possible, so they choose to repay their loan over several months or years. Others prefer to pay off their loan as soon as possible, so they choose the highest monthly rate.
Choosing a low monthly payment and a long term often brings the highest interest rates. It might not seem like it because your monthly payments are so much lower, but you actually pay more for the loan over the term.
8. How soon do I need the money?
Some personal loan lenders, especially mobile app lenders or telecom providers like M-Shwari, deliver funds electronically the same day as approved. Other lenders take up to 10 business days. If quick access to money is important to your situation, then you should definitely choose fast delivery lenders.
9. How does a personal loan affect my creditworthiness?
Personal loans are a form of installment loan, while credit cards are considered revolving loans. Having both types of credit in your profile will strengthen your credit mix.
A diverse mix of credit helps, but not everything. Some say that taking out a new installment loan, such as a car loan or mortgage, can improve your score, but you don’t have to take on debt unless you actually need it.
To maintain good credit, focus on making payments and credit utilization first.
While taking out an installment loan in and of itself won’t improve your credit score much, using a personal loan to pay off revolving debts will significantly improve your credit score.
10. What other options do I have?
If you’re looking to pay off debts, balance transfer cards are another option.
With a credit transfer card, you won’t be able to pay interest for up to two years, saving you hundreds of cash with ease.
Depending on your situation, you may also be able to transfer more than one credit card balance to the new card, as long as the total does not exceed your credit limit.
However, it is becoming increasingly difficult to qualify for credit transfer cards as lenders tighten their new loan requirements. They also have other disadvantages, including credit transfer limits (which are often lower than your actual card limit) and credit transfer fees.
Personal loans are a great option, but like any financial product, they’re most beneficial when you have a plan in place. After carefully going through the questions listed above, do a gentle query on the lender’s website or a third-party credit market so that you can see your options without sacrificing your creditworthiness. After seeing what you pre-qualify for, it is only then that you should do a hard query.