Types of Personal Loans: Explained for Beginners

Personal loans are attractive to many borrowers because the approval process is relatively fast, you can borrow a significant amount of money and they’re flexible in how you can use the money. But which type of personal loan is right for you?

In this article, we’ll cover the main types of personal loans, explain what they’re used for and highlight some different types of loans commonly confused with personal loans.

What Are the Different Personal Loan Types?

While personal loans can be used for almost anything, there are only a few main types that actually affect the structure of the loan. 

Keep in mind that these types aren’t necessarily exclusive of one another. For example, an unsecured personal loan will also be either fixed-rate or variable-rate. 

Unsecured loan

Unsecured personal loans don’t require collateral. That means that you don’t need to put up an asset to qualify for the loan. Whether or not the loan gets approved or denied will be based entirely upon the lender’s assessment of the strength of your application.

Your credit history and your debt-to-income (DTI) ratio will be the most important factors the lender reviews as a part of the application process.

Unsecured personal loans generally range anywhere from $2,000 to $45,000 in value.

Secured loan

Unlike unsecured loans, secured personal loans require collateral. This means that you will need to put up an asset to qualify for the loan. If you fail to make the payments on your loan, the lender will have the right to take ownership of that asset.

The type of asset you put up is usually less important than what it’s worth. Homes and vehicles are common forms of collateral, but jewelry and even valuable artwork could also be used.

Secured personal loans tend to be available for higher values and with lower interest rates than unsecured loans. From a lender’s perspective, their access to your collateral offsets some of their risk in issuing the loan.

Fixed-rate loan

Whenever you take out a loan, the lender will charge an interest rate. The higher the interest rate is, the more you’ll owe to the lender as a part of the repayment process. Combining the interest rate with the lender fees gives you the annual percentage rate (APR) or the total cost of borrowing money.

With a fixed-rate loan, the interest rate the lender charges you will remain the same over the life of the loan. That gives you stability with your monthly payment and the ability to budget your personal loan repayment years into the future.

Variable-rate loan

Variable-rate loans mean that the interest rate the lender charges you will change over time. There are a lot of factors that go into the interest rates lenders set, including the federal funds rate and general market conditions. That means your interest rate could either increase or decrease.

If you’re lucky and the interest rate decreases, you’ll end up with a lower payment. However, if interest rates rise, you’ll owe more. If they rise significantly, you could have a hard time affording your new monthly payment.

Nobody can predict with certainty what interest rates will do in the future, making variable-rate personal loans a risky option simply because it’s hard to forecast what your monthly payments will look like once the interest rate changes.

Co-signed or joint loan

It’s possible to apply for a personal loan with a co-signer or co-borrower. This means that you’re effectively applying for a personal loan as a part of a team. This can be a good option if you have a lower credit score or if your DTI ratio is on the higher side.

Not all lenders will accept a co-signer or a co-borrower for a personal loan, so pursuing this type of loan may limit your options when it comes to choosing a lender.

Common Uses for Personal Loans

Colloquially, people use words wrong all the time. For example, “literally” was misused so widely that Merriam-Webster literally changed the definition to account for how people were actually using it.

This matters, because you’ll often see personal loans referred to as different loan types based on what they’re being used for. Technically, this isn’t true. The type of personal loan doesn’t change just because of what you’re using it for, even if the name does.

We’ve compiled a list of names based on usage below. Just remember, all of these are still personal loans, and what actually affects the type of personal loan is whether it’s secured or unsecured, fixed-rate or variable-rate, and if you have a co-signer or co-borrower.

Other Types of Loans

Below are some other types of loans that get frequently mixed in with personal loans. While many function similarly, these are not personal loans at all. They are unique loan types.

Personal line of credit

Personal lines of credit are unique loan types that operate similarly to a home equity line of credit (HELOC). Basically, a lender will approve you for a credit limit that you can borrow against. You can then borrow as little or as much as you need up to that limit.

While you may be approved for a higher amount, you’ll only owe monthly payments and pay interest on what you actually borrow. This can be a good option if you’re uncertain how much money you’ll need to accomplish your goals.

Payday loan

Payday loans are a popular option for people with poor credit because lenders don’t need to check their credit. They’re also fast; they can sometimes be approved within minutes.

However, be warned: payday loans come with some of the highest interest loans of any loan type. Lenders also don’t have to report to the credit bureaus, so even if you pay the loan back on time, it won’t help your credit score.

Credit card advance

This is when your credit card lender gives you a cash advance on your credit card. This usually comes with a fee and lenders can charge even higher interest rates than they do for a regular credit card purchase.

Generally speaking, personal loans will have lower interest rates than most credit cards.

Buy now, pay later

Buy now, pay later means that a third party will step in to provide the funds that you need. You’ll be responsible for negotiating your repayment terms directly with them. This option is most commonly available with retailers trying to sell you a product. They can also be called point-of-sale loans.

Tips for Choosing the Right Type of Personal Loan

If you’re undecided on the right loan type for your situation, here are some questions to ask yourself:

• How strong is your application? If you have a weaker credit score or DTI ratio, you might need to consider a secured loan. The collateral you put down could help to offset the less desirable aspects of your application.
• How much money do you need? Unsecured personal loans usually max out around $45,000. If you need more than that, you’ll likely need to consider a secured loan, or potentially another type of loan altogether.
• Are you comfortable with uncertainty? If so, you might consider a variable-rate loan. You’ll receive a lower interest rate to begin with, but depending on what happens with market conditions, your interest rate could significantly increase in the future. Alternatively, it could decrease.
• Do you need a co-signer? If you can’t qualify for a personal loan on your own, you might consider finding a co-signer. Just remember, this will limit your choices as fewer lenders offer this type of loan.

Final Thoughts on the Different Types of Personal Loans

Regardless of whether you want to get financing for a vacation or a wedding, many “types” of loans are still personal loans. What truly differentiates them are the details affecting the loan structure.