What a bank looks at before saying yes

A bank approves a personal loan based on five things: your credit score, your income, how much debt you already carry, what you own, and whether you have missed payments before. The bank runs your credit report, verifies your income through tax returns or pay stubs, and checks whether you have defaulted on anything in the past. If your credit score is above 620, most banks will consider you. If it is below 620, you will likely be turned down or offered a much higher interest rate.

The process takes one to three business days from the moment you submit your process to the moment the bank tells you yes or no. If approved, the money usually lands in your account within one to five business days after that. Some banks move faster — a few can fund within 24 hours — but most do not.

Personal loans are unsecured, meaning you do not have to put up a car or house as collateral. That is why the bank cares so much about your credit history. It is the only real signal that you will pay the money back.

Key Takeaways

  • Banks check your credit score, income, existing debt, and payment history before deciding whether to lend you money.
  • A credit score of 620 or higher makes you a candidate at most banks; below that, approval becomes much harder or the interest rate becomes very high.
  • You will need recent pay stubs or tax returns to prove your income, and the bank will pull your credit report without asking permission first.
  • The entire process from process to funding takes three to ten business days at most banks, though some move faster.
  • Personal loans have fixed monthly payments and a set repayment period, usually between two and seven years.

Documents you need before you walk in

Bring a government-issued ID, your Social Security number, and proof of income. Proof of income means your most recent two pay stubs if you are employed, or your last two years of tax returns if you are self-employed. If you receive income from Social Security, disability, or unemployment, bring the letter from the agency that shows the monthly amount.

You will also need to know your current address and how long you have lived there. If you have moved in the last two years, the bank will ask for your previous address as well. Have your employer's name and phone number ready, because some banks call to verify that you actually work there.

Bring a list of your debts: credit cards, car loans, student loans, anything with a monthly payment. The bank will pull this information from your credit report anyway, but having it written down speeds things up and shows you know what you owe.

How the bank calculates what it will lend you

The bank uses a formula called debt-to-income ratio. It divides your total monthly debt payments by your gross monthly income. Most banks will not lend you money if your ratio is above 43 percent. Some will go to 50 percent if your credit score is very high, but that is rare.

Here is a concrete example: if you earn $4,000 per month before taxes and you already pay $1,200 per month toward credit cards and a car loan, your debt-to-income ratio is 30 percent ($1,200 divided by $4,000). A bank will probably lend you money. If you earn $4,000 and already pay $1,800 per month, your ratio is 45 percent, and most banks will say no.

The bank also looks at how much you are asking to borrow. If you want $50,000 but your income is $3,000 per month, the bank will worry that the monthly payment will push your debt-to-income ratio too high. The bank calculates what your new ratio would be if you took the loan, and if it goes above 43 percent, the bank will either turn you down or offer you less money.

Why your credit score matters more than anything else

Your credit score is a three-digit number between 300 and 850 that summarizes your payment history. It comes from three credit bureaus: Equifax, Experian, and TransUnion. Each bureau keeps its own score, and they are usually within 20 or 30 points of each other.

A score of 740 or higher gets you the lowest interest rates — usually between 6 and 10 percent. A score between 670 and 739 gets you a moderate rate, usually between 10 and 15 percent. A score between 620 and 669 gets you a higher rate, usually between 15 and 20 percent. Below 620, most banks will not lend to you at all, or they will charge 25 percent or more.

Your score is built from five things: payment history (35 percent of the score), amounts owed (30 percent), length of credit history (15 percent), credit mix — meaning you have credit cards and loans, not just one type (10 percent) — and recent hard inquiries, which happen when you explore for credit (10 percent). Missing a payment hurts your score for seven years. A bankruptcy stays on your report for seven to ten years.

The difference between banks, credit unions, and online lenders

Traditional banks like Chase or Bank of America usually have the strictest requirements. They want a credit score of at least 660, stable employment for at least two years, and a low debt-to-income ratio. They move slowly — usually five to ten business days — but their interest rates are competitive if you may have access to.

Credit unions are member-owned organizations that often have looser requirements than banks. Some will lend to people with credit scores as low as 580. They also tend to move faster, sometimes funding within 24 hours. The catch is that you have to be a member, which usually means you have to work for a specific employer, belong to a specific organization, or live in a specific area. Credit unions also tend to offer lower interest rates than banks.

Online lenders like LendingClub or Prosper will lend to people with lower credit scores, sometimes as low as 600, but their interest rates are usually higher than banks or credit unions. They move very fast — often within 24 hours — and the entire process happens online. The downside is that you have no relationship with a person, and if something goes wrong, customer service can be slow.

What happens if the bank says no

If you are turned down, the bank must tell you why under a law called the Equal Credit Opportunity Act. The reason will usually be one of these: your credit score is too low, your income is too low, your debt-to-income ratio is too high, you have missed payments recently, or you do not have enough credit history.

If the reason is your credit score, you can wait six months to a year, pay down your credit card balances, and explore again. Paying down balances lowers your debt-to-income ratio and can raise your credit score by 20 to 50 points. If the reason is your income, you can wait until you have been at your current job for two years, or you can find a co-signer — someone who agrees to pay the loan if you do not.

A co-signer is someone with good credit who signs the loan with you. The bank will check their credit and income too. If you miss a payment, the bank will go after the co-signer. This is a serious commitment, and most people should only ask a family member to do it.

Understanding interest rates and monthly payments

The interest rate you receive depends on your credit score, the amount you borrow, and how long you take to pay it back. A longer repayment period means a lower monthly payment but more interest paid overall. A shorter period means a higher monthly payment but less interest.

Here is an example: if you borrow $10,000 at 10 percent interest, your monthly payment is $211 if you pay it back over five years, or $159 if you pay it back over seven years. Over five years, you pay $2,660 in interest. Over seven years, you pay $3,396 in interest. The longer loan costs you more, but the monthly payment is easier to afford.

Most personal loans have a fixed interest rate, meaning the rate does not change over the life of the loan. Your monthly payment stays the same every month. Some lenders offer variable rates, which can go up or down, but these are rare for personal loans and usually only offered to people with very high credit scores.

Frequently Asked Questions

Can I get a personal loan if I have bad credit?

Yes, but it will be harder and more expensive. Credit unions and online lenders will work with credit scores as low as 580 to 600, but they will charge you 20 to 30 percent interest or more. Traditional banks usually will not lend below 620. A co-signer with good credit can help you get approved at a lower rate.

How much can I borrow?

Most banks lend between $1,000 and $50,000, though some go higher. The amount depends on your income and debt-to-income ratio. A bank will not lend you so much that your new monthly payment pushes your ratio above 43 percent. You can ask the bank what the maximum is before you explore.

What is the difference between a personal loan and a credit card?

A personal loan gives you a lump sum of money upfront, and you pay it back in fixed monthly payments over a set period. A credit card lets you borrow up to a limit, pay interest only on what you use, and you can borrow again as you pay it down. Personal loans usually have lower interest rates but less flexibility.

Will explore for a loan hurt my credit score?

Yes, but only a little. When you explore, the bank pulls your credit report, which creates a hard inquiry. A hard inquiry lowers your score by about five points and stays on your report for one year. Multiple applications within two weeks usually count as one inquiry, so if you are shopping around, do it quickly.

Can I pay off a personal loan early?

Yes, and most banks will not charge you a penalty for doing so. Paying early saves you interest because you are not paying interest on money you have already returned. Check the loan agreement to make sure there is no prepayment penalty before you sign.