Installment loans can be used for almost any expense, but the monthly repayments and interest rates can make them a costly method of financing, especially for those with poor credit. Funds are paid in a lump sum and repaid in equal monthly installments, also known as installments.
If an installment loan isn’t right for you and you need funds quickly, consider alternatives like a personal line of credit, a credit card, or a home equity line of credit.
1. Credit facilities
Not all lenders offer a personal line of credit, especially if you’re looking for an unsecured option. Still, it’s a worthy alternative to a personal loan. A line of credit is more flexible and often has an APR that’s comparable to installment loan interest rates.
Ideal for larger projects or long-term expenses, a line of credit allows you to borrow as much as you need, when you need it, up to your credit limit. During the drawdown period, you only pay interest each month. Once the drawdown period ends, your line of credit becomes the equivalent of a term loan.
Some lenders offer unsecured personal lines of credit. However, many lenders require you to provide some sort of collateral, especially if you are borrowing a large amount. Collateral is an asset or property that backs the loan balance. Lenders use collateral to minimize the risk of large loans or to secure loans for borrowers with poor credit. If you fall behind on your balance payments or fail to make payments for a period of time, your collateral may be seized to cover the missed payments.
For personal lines of credit, the type of collateral varies by lender. Lenders often use savings accounts, investment accounts, or certificates of deposit (CDs). Unsecured lines of credit are less common, but some lenders may offer unsecured lines of credit to individuals with the highest credit scores.
advantage
- Flexible spending.
- You will only pay interest on the amount used during the withdrawal period.
Cons
- There are fewer lender options.
- Collateral may be required.
2. Credit card
If you’re on a tight budget or have a strict financial plan, credit cards can be difficult to manage. Credit cards often have higher interest rates than loans and other financing methods, making it easy to get into a lot of high-interest debt. But if used responsibly and paid off proactively, credit cards can offer unique perks that you can’t get anywhere else, like cash back and travel rewards.
Before you get a credit card, create a realistic credit card budget to avoid overspending. Most cards come with high interest rates, but they only become a problem if you miss a payment at the end of the billing period.
The lower your balance at the end of each month, the less interest you will pay. Ideally, you should pay your monthly payments in full and on time, but if you are short on funds for a month or two, at least make the minimum monthly payment to avoid late fees. While it may help you once or twice, making only the minimum payment is not a recommended long-term solution as your monthly payments will skyrocket.
Keep in mind that credit cards come with significant fees, including annual fees, which can range from $0 to over $600 per year. The best rewards and travel cards usually have higher annual fees and are only available to customers with good credit. You also need to spend up to a certain amount to get the most out of your card’s rewards, so make sure you don’t overspend.
advantage
- Membership benefits such as cash back and travel rewards.
- If you repay the amount due before the end of the billing cycle, you won’t be charged interest.
Cons
- The interest rates are higher than personal loans.
- There may be a hefty annual fee.
3. Mortgage-backed loans
A Home Equity Loan (HELOC) is a great option if your home has increased in value and you need to cover a series of large expenses. For example, major home improvement projects and school-related expenses like housing and tuition that aren’t covered by federal aid are perfect for a HELOC. Plus, if you use all of the funds to renovate, buy, or build a home, the interest is tax-deductible.
The amount you can borrow depends on the equity in your home, but most lenders allow you to borrow up to 85 percent. Like a line of credit, a HELOC allows you to borrow as much money as you need, when you need it, over a drawdown period that is usually 10 years.
The main drawback of a HELOC is that your home serves as collateral for the line of credit, so if you can’t make payments, the lender can foreclose to pay off your past due balance. However, the foreclosure process isn’t instantaneous, and while lenders may be willing to negotiate or extend alternative payment plans, there are still risks.
Because a HELOC is a secured debt, interest rates and fees tend to be lower than other loans and financing options. Still, you’ll need to meet income and credit score requirements to secure the lowest interest rates.
advantage
- You may deduct interest on certain expenses.
- Some lenders require you to make interest-only payments during the drawdown period.
Cons
- If you can’t make payments, you risk foreclosure.
- There may be a home appraisal fee and other fees required.
When to consider installment loan alternatives
There are several types of installment loans available for a variety of expenses, but they aren’t necessarily the best option in every situation. For example, most installment loan lenders require that individuals have at least good credit and meet annual income requirements. If you don’t meet most of the lender’s minimum requirements, you might want to consider whether you can delay borrowing and work on improving your credit score.
While some companies offer other installment loan options for borrowers with good credit, loans for borrowers with poor credit often have higher interest rates and fees, meaning if you can’t make the monthly payments, your credit score could drop and you could end up paying fees on top of interest.
If you’re financing a large ongoing project, you should also consider alternatives. With an installment loan, you can only borrow up to a certain amount. If you under- or over-borrow, you’re stuck with the balance until you pay it off in full. However, some lenders allow borrowers to take out a second loan after making payments for a certain period of time.
Conclusion
Installment loans can be a convenient option if you need to cover a large expense, but they aren’t as flexible as other options, such as a credit card or personal line of credit.
But whatever approach you take, be sure to compare multiple options and weigh your minimum requirements and financial situation before applying. Also, research and get pre-qualified with several lenders to ensure that your personal loan interest rates are competitive before choosing a specific product.
