Life preservers

Emergency Loans: What They Are and How They Work

TLDR

What You Need To Know

  • An emergency loan provides you with money quickly, usually within a few business days, to cover an unexpected expense
  • You could use an emergency loan for anything, but an emergency loan tends to be needed when facing unexpected car repairs, medical bills or funeral expenses
  • Emergency loans tend to be unsecured loans, which usually come with higher interest rates

Contents

Every so often, something unexpected happens. Maybe it’s an accident that renders your car unusable, a natural disaster that damages your home or an surprise medical bill. When a financial emergency comes up, you may suddenly need money to cover expenses and get your life back on track.

However, getting a loan in an emergency can come with added expenses and challenges. If you need an emergency loan, it’s a good idea to understand what your options are so you can find the best one to fit your needs.

What Is an Emergency Loan? 

As the name suggests, an emergency loan provides you with money quickly, usually within a few business days, to cover an unexpected expense. 

You could use an emergency loan for anything, but an emergency loan tends to be needed when facing unexpected car repairs, medical bills or funeral expenses.

Because you’re asking for money quickly, there usually isn’t time for a lender to do the due diligence needed to secure the loan with collateral, like they might with a mortgage or auto loan. For that reason, emergency loans tend to be unsecured loans, which usually come with higher interest rates.

How Do Emergency Loans Work?

Now that you understand what an emergency loan is, it’s time to find out what types of emergency loans are available, as well as where and how you can get them.

Personal loans 

If you need money quickly, your best option may be an unsecured personal loan. These are loans you can take out through a bank, credit union or online lender. Depending on your credit score and income, you may be able to borrow between $1,000 – $20,000 in as little as 1 business day.

Personal loans tend to be fixed-rate loans. You get a lump sum of money upfront and agree to pay back the loan in equal monthly installments for a period ranging from 12 – 60 months (1 – 5 years). 

Interest rates on personal loans tend to start around 8% – 9%,[1] but can vary depending on your lender, credit score and income. Also, to qualify for a personal loan, you’ll usually want to have a credit score of 670 or better;[2] though that may vary by lender.

Payday loans 

As the name suggests, payday loans offer short-term loans you can use to cover expenses until you get your next paycheck. In most circumstances, payday loans allow you to borrow a certain amount of money (less than the value of your next paycheck) with repayment due after 2 – 4 weeks. 

While payday loans can be fast and convenient, they can charge $15 interest on every $100 you borrow. While that may not seem like much, that’s 15% interest per month.[3] If a payday loan were a credit card, that would be a 400% annual percentage rate (APR). 

Payday alternative loans 

Because payday loans tend to target lower-income borrowers, America’s credit unions have stepped up to provide payday alternative loans (PAL). 

With a PAL, you can borrow between $200 – $1,000, and the credit union will only charge a one-time processing fee of up to $20 and a maximum APR of 28%. For a PAL, the loan term can range from 1 – 6 months, and you’re allowed to take out up to 3 PALs during a 6-month period as long as no PAL overlaps or is rolled over.[4]

However, you may not be able to simply walk in and request a PAL. Many credit unions want you to have been a member for 1 – 6 months before they’ll consider you for a PAL.

While these loans won’t work in every situation, they can help with funding in a pinch and at a more affordable rate than other types of loans.

Title loans

Title loans, or auto title loans, are another option but not an ideal one. First, to take advantage of an auto title loan, you need to own a car outright. If you’re still making payments, you won’t qualify. 

An auto title loan allows you to use your car as collateral and then borrow up to 50% of the car’s appraised value. However, auto title loans usually require you to pay back the loan, plus interest in full after 30 days. The interest rate on these loans can easily be 25% of the loan amount. That’s a hefty interest payment you’ll need to cover, in addition to the balance of the loan.

If you don’t make your payment on time and in full, your lender can repossess your car. This happens about 20% of the time.[5] So it’s probably a good idea to consider this type of loan a last resort.

Cash advances

A cash advance is like a loan from your credit card company. It can be incredibly convenient. Just stick your credit card in an ATM, request a cash advance and you’re off and running. However, it doesn’t come cheap.

Many credit card companies charge a higher interest rate for a cash advance than they would for normal purchases. Also, while you get a 30-day grace period on interest when you use your credit card to make purchases, with a cash advance, the interest starts accumulating as soon as the money leaves the ATM.

In addition, your credit card company may charge an upfront cash advance fee of up to 5% of your advance.

While a cash advance can be convenient, you’re better off asking your vendor to swipe your card directly, rather than going to the ATM. Ideally, you should only use a cash advance if cash is the only payment option available to you.

Emergency loan programs

Some cities and states offer emergency loan programs. These are designed to help you if you need to make repairs to your home’s water or sewer lines, or if you’re having trouble covering your rent payments. Loans and programs will vary depending on where you live, but contacting your local government is a good place to start.

Where Can You Get an Emergency Loan?

If you’re looking for an emergency loan, there are several options available.

Online lender

Online lenders typically offer personal loans and promise quick turnaround times. Many of them can be a good option. Just make sure the lender is reputable before you share any personal information.

Traditional bank 

Your local commercial bank can offer a number of options, including personal loans and home equity financing if you’re a homeowner. While just about any bank can offer these services, you may want to start with a bank you already have a relationship with, since it can help cut down time requirements.

Credit union

Your local credit unions can often offer extremely competitive interest rates and low fees to help you get an emergency loan. Also, unlike other lenders, credit unions can offer PALs.

What Should You Consider Before Getting an Emergency Loan?

Before you take out an emergency loan, it’s a good idea to consider the following:

How much time do you have?

While some vendors, like funeral homes, medical providers and auto repair businesses, may require money upfront, others may be willing to offer a little leeway regarding payment. This can allow you additional time to find a more affordable source of funding.

How much do you need to pay?

Make sure you understand how much you need to pay upfront and when you’ll need to repay your balance in full. 

Do they offer financing?

Before you take out a loan, you may also want to ask the vendor if they offer any kind of financing options. These aren’t always the best option, but it may provide you with an additional resource.

What do you need to qualify?

If you’re taking out an emergency loan, make sure you know the qualification requirements before you apply. These qualifications vary with the lender but are usually related to your credit score, income, employment status and debt-to-income (DTI) ratio. 

Then check to see if you meet those requirements. If you don’t, you might not want to waste time on an option that may not pan out.

What are the terms?

Before you agree to any kind of emergency loan, make sure you fully understand:

  • How much interest you’ll need to pay
  • How much your monthly payments will be and how long you’re required to make the payments
  • How soon your first payment is due
  • What fees you’re responsible for
  • What kind of penalties you may be responsible for if you make a late payment

Can you pay early?

If you find that you’re suddenly able to pay back the balance of the loan, will the lender allow you to do so? If yes, how will that affect your interest payments, and are there any early payment penalties you need to be aware of?

Do Emergency Loans for Bad Credit Exist?

There are emergency loans, from online and in-person lenders, available if you have bad credit or no credit history. But you’ll pay more in interest and be charged a larger origination fee.

If you can’t qualify for an emergency loan with a bank or credit union because you have a low credit score, there are options available that can help you to qualify.

Find a co-signer or co-borrower

If you have a family member or friend with better credit, see if they would be willing to act as a co-signer or co-borrower on the loan. If they do this, they agree to take responsibility for the loan if you are unable to pay it back. So make sure they understand what they’re agreeing to before signing.

Use a secured loan

Some lenders may be more willing to lend to you if you have a home, car or another valuable item you can put up as collateral. Just be warned, if you don’t repay your loan, you risk losing the asset and may still owe your lender money after they take possession of it. 

Check with your credit union

While traditional banks are for-profit businesses, credit unions are nonprofit organizations that are community-focused. For this reason, they may be willing to extend a loan where other banks won’t.

Are There Alternatives to Emergency Loans?

If these options don’t work for you, there are other options available that can provide you with the money you need.

Credit cards

Depending on the amount you owe and your vendor’s policies, you may be able to use a credit card to cover the balance, or even distribute the debt over multiple credit cards. While this solution can be convenient, you will probably be facing higher interest rates of 15% – 25%. 

If you can take advantage of a 0% interest promotional offer, you may be able to save money on interest in the short term, but these offers usually only last 6 – 18 months.

Home equity loans/HELOCs

If you’re a homeowner, you may be able to take advantage of your available equity with a home equity loan or home equity line of credit (HELOC). While some lenders can expedite the process, these loans usually take a minimum of 2 weeks to process in the best of circumstances. So if you need money today, it may not be your best option.

Payment plans

Some vendors may offer financing options or can refer you to a lender who can help you set up a payment plan. Like any loan, make sure you understand all the terms and conditions before you commit.

Loans from family

In a pinch, you may want to reach out to family members or friends for a short-term loan. You could ask them to cover you now and agree to pay them back as soon as you can take out a home equity loan, HELOC or another loan that takes more time to process.

Whatever you agree to, make sure you have a written agreement that specifies how much you plan to borrow, whether the money is a loan or a gift as well as how and when you plan to pay them back. 

This doesn’t just protect you from misunderstandings with family, you’ll also need to provide that information to the Internal Revenue Service at tax time.

Are Emergency Loans Right for You?

Every so often, something unexpected happens, and you may need money to cover it. While it’s not ideal, a short-term emergency loan can get you the money you need to get your life back on track.

If you do take out an emergency loan, make sure you explore your options to find the loan that provides you with the money you need, with an interest rate and repayment terms you can afford.

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  1. National Credit Union Administration. “Credit Union and Bank Rates 2022 Q1.” Retrieved June 2022 from https://www.ncua.gov/analysis/cuso-economic-data/credit-union-bank-rates/credit-union-and-bank-rates-2022-q1

  2. Experian™. “What Is the Best Term Length for a Personal Loan?” Retrieved June 2022 from https://www.experian.com/blogs/ask-experian/what-is-the-best-term-length-for-a-personal-loan/

  3. Consumer Financial Protection Bureau. “What are the costs and fees for a payday loan?” Retrieved June 2022 from https://www.consumerfinance.gov/ask-cfpb/what-are-the-costs-and-fees-for-a-payday-loan-en-1589/

  4. National Credit Union Administration. “Payday Alternative Loans Final Rule.” Retrieved June 2022 from https://www.ncua.gov/files/agenda-items/AG20190919Item4b.pdf

  5. Consumer Financial Protection Bureau. “CFPB Finds One-in-Five Auto Title Loan Borrowers Have Vehicle Seized for Failing to Repay Debt.” Retrieved June 2022 from ​​https://www.consumerfinance.gov/about-us/newsroom/cfpb-finds-one-five-auto-title-loan-borrowers-have-vehicle-seized-failing-repay-debt/

ICYMI

In Case You Missed It

  1. Because payday loans tend to target lower-income borrowers, America’s credit unions have stepped up to provide payday alternative loans (PAL)

  2. There are emergency loans available if you have bad credit or no credit history. But you’ll pay a more in interest and be charged a larger origination fee

  3. To take advantage of an auto title loan, you need to own a car outright. If you’re still making payments, you won’t qualify

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