Debt consolidation and emergency expenses are the most common reasons people are seeking personal loans, according to a new Bankrate study. For the study, Bankrate examined responses from more than 160,000 Americans seeking prequalification on a personal loan in the first quarter of 2020.
As COVID-19 launches a wave of economic uncertainty, leaving more than 22 million people newly out of work, many banks are adjusting their personal loan options to help people stay afloat.
But it’s the best of times and the worst of times to apply for a personal loan. While banks like U.S. Bank and Five Star Bank have announced new loan offerings with lower interest rates, many lenders are also enforcing stricter qualification requirements.
“Benchmark interest rates have fallen dramatically with the Fed cutting rates aggressively in the month of March, but just because rates are lower doesn’t mean everyone can get those rates,” says Greg McBride, CFA, Bankrate chief financial analyst.
- Debt consolidation and emergency expenses are the most common loan uses.
- Most consumers are looking for loans of $2,000 to $25,000.
- Emergency expenses require the smallest loans, while debt consolidation requires the largest.
Consolidating debt is a priority
The major reasons consumers sought personal loans from January to March include debt consolidation (38 percent) and paying emergency expenses (23 percent).
As economic uncertainty grew throughout the first quarter of 2020 and many people lost work, it’s likely that many borrowers sought to simplify their financial picture while taking advantage of falling interest rates.
In fact, The Federal Reserve and four other agencies in mid-March made a joint statement encouraging financial institutions to “offer responsible small-dollar loans to consumers and small businesses in response to COVID-19.”
Many community banks answered the call by lowering APRs on personal loans. U.S. Bank, for instance, recently cut its APRs to 2.99 percent for loans between $1,000 and $5,000. Five Star Bank also announced that it will offer personal loans of up to $5,000 at a 2.95 percent interest rate.
Even as home renovation season nears, just under 5 percent of people applying for prequalification wanted a loan for home improvements. This low percentage might reflect the fact that homeowners are more likely to opt for a lower-rate secured loan such as a home equity line of credit for renovations rather than a personal loan. This lending could also become harder to get in the coming months as lenders pull back on HELOC loans.
Midsize loans are popular among borrowers
Bankrate’s study shows that about two-thirds of borrowers applying for prequalification through Bankrate in the first quarter sought loans between $2,000 and $24,999.
Only 14 percent of respondents wanted loans larger than $25,000.
As the coronavirus pandemic forces businesses to remain closed through the second quarter of 2020, more Americans may soon need bigger loans to make ends meet. However, it may be harder for those with lower credit scores to secure the best rates on personal loans.
“Demand is going to be higher for consumers with marginal credit, but approval rates will be increasingly stringent and skew more toward borrowers with the highest quality credit,” McBride says.
Consumers with poor credit should compare the best loans for bad credit to find a competitive offer.
Many consumers may be overwhelmed by debt
Almost half of potential loans totaling less than $2,000 are intended to cover emergency expenses. A separate survey by Bankrate taken before the coronavirus outbreak that found only 41 percent of Americans would cover an unexpected $1,000 expense with their savings.
Debt consolidation is the most common usage for respondents seeking loans of $10,000 and above. Nearly half of the loans needed for debt consolidation fall within this range.
People strained by high-interest debt can relieve some pressure when they pay it off with a personal loan at a lower rate. In the long run, they can potentially save thousands of dollars.
According to a recent survey by Experian, 51 percent of respondents said that high interest rates were their biggest concern regarding credit card use. The average variable credit card interest rate for the week of April 22 was 16.46 percent. The national average rate on personal loans for the same time period was 11.23 percent, according to Bankrate data. But the best personal loans have rates around 5.99 percent.
“Personal loans have seen tremendous growth over the last decade in large part because they were an attractive way to consolidate high cost credit card debt,” McBride says. “And those with good credit can consolidate double-digit credit card rates at single-digit personal loan rates.”
Of course, the best interest rates go to people with good credit; before committing to a debt consolidation loan, it’s important to check your rate with lenders and make sure your APR offer is lower than what you’re currently paying on your credit cards.
It’s important to shop around
Even though many lenders are making personal loans more attractive by lowering their APRs, they’re tightening qualification requirements in order to avoid risk in a market where the unemployment rate continues rising.
To secure a personal loan at a good rate, borrowers may need higher credit scores and smaller debt-to-income ratios than in previous months.
Beyond improving your credit score and DTI ratio, the best way to find the best terms on a personal loan is to compare personal loan rates. Research different lenders, banks and credit unions. Some may have special deals with existing customers, while others are willing to favor new business.
“Cast a wide net,” McBride says. “That’s how you’re going to get the best sense of what’s available in the marketplace and who’s offering the best deal.”
This study recorded the responses of more than 160,000 visitors to the Bankrate loans prequalification form between Jan. 1 and March 31, 2020. The data reflects information provided by form respondents and is not a representative U.S. sample. This form reflects application information, not approvals.
Martin Lewis issues guidance on using credit cards to build ratings – best deals | Personal Finance | Finance
Martin Lewis regularly urges savers to use caution when utilising debt themed products but at the same time, he acknowledges the need for a decent credit rating to get by financially. Today, the Money Saving Expert was questioned by viewer Miranda on how one can build their credit rating in difficult circumstances.
“What I’d then like you to do is go and do £50 a month of normal spending on it, things you’d buy anyway.
“[Then] Make sure you pay the card off in full every month, preferably by direct debit so you’re never missing it because the interest rate is hideous.
“That way you won’t pay any interest.
“You do that for a year, you’ll start to build that credit history, showing them you’re a good credit citizen.
“Then you’ll be able to move into the sort of more normal credit card range.
“So, bizarrely, to get credit you need credit. What credit will you get? Bad credit, go get the bad credit just make sure it doesn’t cost you.”
Consumers of all kinds may not have the best options at the moment as recent analysis from moneyfacts.co.uk revealed.
In mid-November, they detailed that a number of high street banks have cut the perks and interest on a number of their current account deals.
On top of this, the Bank of Scotland and Lloyds Bank made credit interest cuts of up to 0.5 percent.
Rachel Springall, a Finance Expert at moneyfacts.co.uk commented on the few options consumers and savers currently have available: “Clearly, it is vital consumers decide carefully if now is the time to switch, but if they wait too long, they may well miss out on a free cash switching perk.
“At present, providers will be assessing how they can sustain any lucrative offers in light of the pandemic.
“With this in mind, we could well see more changes in the months to come and if this does indeed occur, consumers would be wise to review whether their account is still worth keeping.”
Should you use a balance transfer to pay off debt?
A balance transfer might be the solution if you have debts and want to gain control over your finances. But whether a balance transfer is right for you will depend on a number of factors.
Things to consider before using a balance transfer
The size of your debt
If you want to apply for a balance transfer credit card, be aware that most providers will allow you to transfer up to 90% of your credit limit.
Your credit limit will be dependent on your own personal circumstances, including your salary, your credit history and your residential status (homeowner or renter).
Be realistic about your debt. For example, if you earn £25,000 per year and you have a debt of more than £15,000, a balance transfer might not be cheapest way to pay the debt.
The time taken to pay the debt
The main advantage of a balance transfer credit card is that many offer an interest-free period on the balance. So, if you can pay off your balance in that period, you won’t accrue any further interest charges.
However, these periods typically range from 18 to 24 months, so if you think you will need more time to pay the debt, you may need to factor in additional interest charges when the interest-free period ends.
Whether or not a balance transfer is the right debt payment solution will depend on your personal circumstances. Check our balance transfer calculator if you want to work out how much a balance transfer could save you in interest payments.
Your credit score
The advantage of a good credit score cannot be underestimated in this situation.
When applying for a balance transfer credit card, the company will check your credit score. Based on this score, they could refuse your application.
Even if you are accepted, if you have a bad credit score they could reduce your credit limit. Ultimately, this will determine the benefit of a balance transfer as a suitable debt payment solution.
If you think your credit score might be a problem, it’s worth checking with the credit reference agencies before applying. That way you can avoid any nasty surprises.
Alternative solutions to balance transfers
You could still use a balance transfer even if the size of your debt is bigger than the credit limit.
Transferring part of the debt would enable you to benefit from any interest-free period, where applicable.
Alternatively, if you have multiple debts, you could consolidate all of your debts so that you can make a single regular payment. If necessary, you could do this using an unsecured personal loan over a period longer than 24 months.
Look at your own personal circumstances with a critical eye. Remember that you need to factor in living expenses when thinking about how long it will take you to pay off your debt.
Balance transfers are a useful method for debt repayment, but be aware that credit cards are an expensive way to borrow money. Take full advantage of any 0% deals wherever possible. Check out our list of the best 0% credit cards.
Some offers on MyWalletHero are from our partners — it’s how we make money and keep this site going. But does that impact our ratings? Nope. Our commitment is to you. If a product isn’t any good, our rating will reflect that, or we won’t list it at all. Also, while we aim to feature the best products available, we do not review every product on the market. Learn more here. The statements above are The Motley Fool’s alone and have not been provided or endorsed by bank advertisers. John Mackey, CEO of Whole Foods Market, an Amazon subsidiary, is a member of The Motley Fool’s board of directors. The Motley Fool UK has recommended Barclays, Hargreaves Lansdown, HSBC Holdings, Lloyds Banking Group, Mastercard, and Tesco.
Turn credit declines into a win-win | 2020-11-20
The pandemic has left millions of people needing credit at a time when lending standards are tightening. The result is a lose-lose situation—the consumer gets a bad credit decline experience and the credit union misses out on a lending opportunity. How can this be turned into a win-win?
The case for coaching
Let’s start by deconstructing the credit decline process: The consumer is first encouraged to apply. The application process can be invasive, requiring significant time commitment and thoughtful inputs from the applicant.
After all that, many consumers are declined with a form letter with little to no advice on actions the applicant can take to improve their credit strength. It is no wonder that credit declines receive a poor Net Promoter Score (NPS) of 50 or often much worse.
On the flip side, forward-looking credit unions provide post-decline credit advice. This is a compelling opportunity for several reasons:
- Improved customer satisfaction. One financial institution learned that simply offering personalized coaching, regardless of whether or not consumers used it, increased their customer satisfaction by double digits.
- Future lending opportunities. Post-decline financial coaching can position members for borrowing needs even beyond the product for which they were initially declined.
- Increased trust. Quality financial advice helps build trust. A J.D. Power study noted that, of the 58% of customers who desire advice from financial institutions, only 12% receive it. When consumers do receive helpful advice, more than 90% report a high level of trust in their financial institution.
Provide cost-effective, high-quality advice
AI-powered virtual coaching tools can help credit unions turn declines into opportunities. Such coaches can deliver step-by-step guidance and personalized advice experiences. The added benefit is easy and consistent compliance, enabled by automation.
AI-based solutions are even more powerful when they follow coaching best practices:
- Bite-sized simplicity. Advice is most effective when it is reinforced with small action steps to gradually nurture members without overwhelming them. This approach helps the member build momentum and confidence.
- Plain language. Deliver advice in friendly, jargon-free language.
- Behavioral nudges. Best-practice nudges help customers make progress on their action plan. These nudges emulate a human coach, providing motivational reminders and celebrating progress.
- Gamification. A digital coach can infuse fun into the financial wellness journey with challenges and rewards like contests, badges, and gifts.
Virtual financial coaching, starting with reversing credit declines, represents a huge market opportunity for credit unions. To help credit unions tap into that opportunity, eGain, an award-winning AI and digital engagement pioneer, and GreenPath, a leading financial wellness nonprofit, have partnered to create the industry’s first virtual financial coach. To learn more, visit egain.com.
EVAN SIEGEL is vice president of financial services AI at eGain.
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