How Prequalification Works for a Personal Loan
When you prequalify for a personal loan, you essentially go through a prescreening process with a lender before you submit a complete application. During the process, the lender typically considers the amount you want to borrow, your current outstanding debts, your income, and your credit score to determine whether you are likely to qualify for a loan and how much you may be able to borrow.
Once the review is complete, the lender typically sends a letter. You may receive this via email, their website, or a physical letter. This notification may provide important information such as the maximum loan amount, interest rate, and loan terms. Once you’ve received your prequalification letter, you can use the information it contains to compare lenders and decide on your loan.
Table of Contents
Prequalification Can Make Applying for Loans Easier
By going through the prequalification process, you can learn whether you have potential issues, such as having too much outstanding debt or a credit score that doesn’t meet the lender’s standards. This can reduce your chances of requiring a hard inquiry on your credit report and allow you to fix potential issues with your credit before you’re ready to apply for the loan.
In addition to knowing whether you’re likely to be approved and how much you may be able to borrow, prequalifying for a personal loan can also give you an idea of the loan terms, including the annual percentage rate (APR) and your monthly payments. By prequalifying with multiple lenders, you can easily compare your loan options before deciding on a lender and submitting a formal application.
Prequalification vs. Preapproval: Know the Difference
While the terms prequalification and preapproval are sometimes used interchangeably, they mean different things.
Prequalifying for a personal loan gives you an estimate of how much you qualify to borrow. Since this is based on the information you’ve provided rather than third-party documentation, the estimate can sometimes be inaccurate.
Preapproval is a more detailed process that will require you to submit documentation to back up the information you’ve provided. A preapproval for a personal loan may also mean that you’ve been prescreened and the lender has offered specific loan terms.
Whether you are prequalified or preapproved, when you’re ready to move forward with the loan, you still need to complete an application, provide documentation, and go through a full credit check. If your circumstances change or the full review uncovers something that hadn’t come up previously, there’s still a chance that your loan application may be denied.
When and Why to Seek Prequalification
Prequalifying for a loan can typically be done quickly and for free over the phone or online, with the whole process taking 1-3 days. This may be an excellent first step when you’re initially starting to consider taking out a personal loan. It can give you a general idea of whether you qualify and how much you can borrow. For example, you may decide to prequalify if you’re thinking about consolidating debt or taking on a project and you want to see if a personal loan is an option for you.
When and Why to Seek Preapproval
Getting preapproved for a personal loan is typically the next step after prequalifying. This process can give you a more accurate estimate of your loan options and the terms the lender is willing to offer, which can be helpful when it’s time to start comparing rates and loan terms.
Some lenders allow you to lock in an interest rate when you’re preapproved. You may also be charged an application fee for going through the process. For this reason, borrowers typically wait to initiate a preapproval until they are close to being ready to apply for a loan. You may also need preapproval if you’re working with a partner, contractor, or someone else who needs assurance and proof that you can secure financing.
How to Get Prequalified For a Personal Loan
There are a couple of ways to prequalify for a personal loan. You can choose a single lender and go directly to their website or physical location to initiate the process, or you can use a website that aggregates loan offers. The second option allows you to enter your information once and prequalify with several different lenders, making it easy to compare your offers.
When prequalifying for a personal loan, pay close attention to the verbiage so you can confirm that you are, in fact, prequalifying rather than applying for a loan. If you inadvertently complete a full application, the resulting hard credit inquiry can lower your credit score by five points or less.
While each lender is different, prequalifying for a personal loan generally involves the following five steps.
1. Gather the Necessary Information and/or Documents You Need
To prequalify for a personal loan, you must provide basic information about your finances and borrowing needs. While you typically do not have to submit documentation at this stage, providing accurate information is essential. This helps ensure your response is as close as possible to the response you get when you submit your application.
Information About the Loan
It’s helpful to know the type and amount of loan you need. Prepare to provide the lender with information regarding the following:
- Your desired loan amount
- The reason for the loan
- The term length you’re looking for
Note that if you do not prequalify for the loan you’ve asked for, the lender may be able to offer you a smaller loan or a loan with different terms.
To evaluate our creditworthiness, the lender must also understand your financial circumstances. This includes information regarding your:
- Current income
- Employment details
- Total outstanding debt
- Credit score range
Gathering these details beforehand can help you ensure you do not miss anything important or misstate the facts.
2. Choose at Least 2 Lenders and Complete Prequalification Applications
Getting prequalified with at least two different lenders allows you to compare multiple unique offers before deciding. Several types of lenders provide personal loans, and each has its potential pros and cons. When evaluating your options, you may consider the following:
- Online lenders: These lenders typically do not have physical branches, which could be a drawback if you prefer to do business in person. However, you may be able to get prequalified at any time of the day or night with a quick and easy application. Online lenders may also offer several types of personal loans and may be more lenient with their qualification requirements. Futher, upon approval, online lenders generally pay the funds out quickly.
- Traditional banks: Banks may have stricter qualification requirements and are typically open during specific hours. However, they may offer you access to a personal banking representative who can help guide you through the loan process.
- Credit unions: A credit union may offer a more personalized experience and lower interest rates when compared to traditional banks. However, they typically have fewer branches and are only open during specific hours. Keep in mind that you will often need to have an account at the credit union in order to qualify for loans.
When comparing your options, it may be helpful to research lenders that cater to borrowers with similar needs and credit profiles. Once you’ve narrowed your choices, compare the loan offers, including the interest rate, loan term, and fees. If you need the money quickly, the loan funding time may also be a consideration. In addition, you may also want to review each lender’s reputation and determine whether the lender offers any borrower perks.
3. Wait for Results as Lenders Review Your Application and Information
Once you’ve submitted your prequalification application, the lender checks your information to determine whether you meet their minimum requirements. This may include reviewing your credit score, evaluating your debt-to-income ratio, and checking that you’re employed and earn sufficient income to comfortably repay the loan. Some lenders can provide an answer within a few minutes, while others may take up to a few days.
4. Receive Prequalification Approvals and Compare Your Options
If you meet the lender’s requirements, you’ll be informed that you have been prequalified for a personal loan. While each lender may be different, it’s common to receive a detailed look at your loan options, including:
- Maximum loan amount
- Estimated interest rate
- Loan repayment terms
- Monthly payment amount
- Approval conditions
Some prequalification letters also provide information regarding other fees, funding timelines, and borrower perks.
5. Complete a Formal Application with Your Selected Lender Or Work on Improving Your Credit
If you are comfortable with the loan terms and ready to move forward, the next step is to complete a formal application. At this point, the lender typically requests documentation to prove the information you’ve provided. This may include bank statements, pay stubs, tax returns, and other financial statements. During the review process, the lender also conducts a hard credit inquiry, which may temporarily lower your credit score.
If the interest rates you’ve been quoted are higher than you expected, you may decide to hold off on the loan and instead focus on improving your credit score so you can receive a more favorable offer in the future.
What to Do If Your Prequalification Application Is Denied
After going through the prequalification process, there’s a chance that your application may be denied. While this can be frustrating, do not give up yet. You can take some steps to increase your chances of approval in the future. This process typically involves communicating with the lender to find out why the application was denied, then working to fix the problem before re-submitting your prequalification request or moving on to another lender.
Reasons For Denial
The first step is to understand the reasons for your denial. If the lender hasn’t provided you with a detailed denial letter, reach out directly and ask for an explanation. In some cases, you may be able to provide additional information or perform additional actions that could change their decision, such as paying off a credit card. If not, you can use what you’ve learned to improve your financial situation. This can also be an excellent time to review your credit report to ensure that there are no inaccuracies that need to be corrected.
Actions for Improving Chances of Favorable Loan Terms
Depending on what you’ve learned from the lender, you may be able to implement one or more of the following steps, which can help you improve your chances of being approved for a personal loan.
Improve Your Credit Score and History
If your credit score was a problem for the lender, you might need to take some time to bring it up before you apply again. This may include making every payment on time and strategically paying down credit cards to improve your debt-to-equity ratio. Keeping older accounts open and limiting applications for new accounts can also help bring your credit score up.
Consider a Co-signer
If you do not have time to wait for your credit score to rise, you may be able to get approved now by adding a co-signer to your loan. A co-signer is another individual who takes full responsibility for paying back the loan if you fail to do so. It’s common to ask a family member or close friend who meets the lender’s income and credit score requirements to act as a co-signer. Since this person is taking legal responsibility for your loan, you may need to convince them you are trustworthy.
Reduce Loan Amount
In some cases, you may be able to qualify by asking for a smaller loan amount. This is particularly true if the lender had a problem with your debt-to-income ratio.
Reduce Loan Term
The loan term is the amount of time you have to repay your loan in full. The shorter the loan term, the less risk the lender takes. Choosing a loan with a shorter repayment period may improve your chances of approval. However, remember that a shorter repayment period requires you to make larger monthly payments, so it’s essential to ensure the new payment works with your current budget.
Putting It All Together
A personal loan can help you achieve a wide variety of goals. Taking the time to get prequalified helps you understand how much you may be eligible to borrow and gives you an idea of the interest rate and loan terms the lender is willing to offer. This also allows you to compare multiple-lender offers without negatively affecting your credit score.
If you’re considering applying for a personal loan, you can start by submitting a prequalification application online. If you’re prequalified, you can either submit an official loan application or take steps to improve your credit score so you can try to get a better rate. Do not forget, if you’re denied, you may be able to take steps to help you get approved in the future.