Are you considering a personal loan during the coronavirus crisis? You should be aware of this
Unsecured personal loans can pay for almost anything. Their flexibility makes them easy when you want to consolidate your debt or put that kitchen island in place.
But if you look at all of your financing options first, you can save money. As the economy changes, so will the way a personal loan fits into your plans.
For example, right now the cheapest way to get extra cash may be not with a personal loan but with 401 (k) funds. The government allows those affected by COVID-19 to withdraw these savings with impunity.
Still, withdrawing money from your 401 (k) could mean losing potential market gains and resetting your retirement plan.
Even if an unsecured loan isn’t the cheapest, it may be the next best option. Here’s what financial planners say about some of the reasons people take out personal loans.
With a debt consolidation loan, you can consolidate existing debts from multiple sources, such as credit cards and other loans, into a single loan. You can save money when you get a lower APR on the new loan.
It’s also an option if you don’t want to pay off your debts from smallest to largest, also known as the debt snowball approach, says Miami-based certified financial planner Angela Moore of Modern Money Advisor. This repayment method focuses on small wins but doesn’t save you time or interest.
She says what personal loans do well for consolidation is the end date they put on your debt. Credit cards, such as balance transfer cards, which can also be used for debt consolidation, usually have revolving balances and open lines of credit that you can continue to spend on.
But if you’ve got a habit of using credit cards, try to calm them down before you commit to a loan repayment terms, says Sacramento-based certified financial planner Tony Matheson.
“I want to make sure (people) don’t just get into a deeper hole by making the problem worse with more debt,” he says.
If the time at home creates the urge to renovate, personal loans are one way to pay for it.
They don’t require you to have home equity or use your home as collateral. But they often have higher interest rates and shorter repayment periods than home equity loans or home equity lines of credit.
The main argument in favor of something like a HELOC is a low interest rate, says Moore. But she recommends taking it easy when borrowing against your home.
“If you take out a home equity line of credit,” she says, the lender could take your home away if you can’t pay the money back. “So you’re bargaining for that lower rate.”
When you have a large medical bill that you can’t cover in one go, a personal loan could cover it. But another, potentially lower-cost option is a low-interest or interest-free payment plan through the medical provider, Matheson says.
He recommends comparing the terms and monthly payments to decide what is best for your financial situation.
You can also work with a medical bill attorney who can spot costly mistakes and negotiate costs to make your bill more affordable. Just inquire about legal fees.
Help someone else
Financial planners generally do not recommend taking out a personal loan to help someone else.
While understanding the urge to help, Wisconsin-based certified financial planner Ben Smith suggests reviewing what borrowing on someone else’s behalf can mean for your own financial plans. Will lending the money thwart your retirement plans or delay your dream of owning a home?
“It’s like sitting on an airplane and the flight attendant says, ‘Put on your own oxygen mask before you help others,’” he says.
Taking out a personal loan to cover a mortgage or utility bill is one case where taking out a loan can do more harm than good.
If you’ve been affected by COVID-19, this might be the time to consider withdrawing from your 401 (k) without penalty, says Smith.
If you can’t make ends meet after cutting your budget, you are likely considering making a major lifestyle change, such as moving in with your parents or selling your home.
“I think people have to think more long-term and more strategically,” she says. “I recommend finding ways to simply reduce your needs – reduce your money needs by eliminating as much expense as possible.”
This article was written by NerdWallet and originally published by The Associated Press.
Annie Millerbernd is a writer at NerdWallet. Email: [email protected]