Understanding Personal Loan Costs
The monthly payment is only one part of what a personal loan costs. The full picture comes from four numbers that lenders are required to disclose, plus any fees added along the way. This guide explains each piece in plain English and links to a deeper article on every topic.
Key takeaways
- The interest rate is the cost of borrowing the principal; the APR adds lender fees on top, so it is the better number for comparing offers.
- Personal installment loans can carry fees such as origination, documentation and late fees. Optional add-ons like credit insurance also raise the cost.
- Federal Truth in Lending disclosures show the amount financed, finance charge, APR and total of payments. Read them before you sign.
- Applying for credit often leads to a hard credit inquiry by the lender, which can affect your credit score. A soft inquiry does not.
What you are actually paying for
A personal installment loan gives you a sum of money up front that you repay in fixed amounts, called installments, over a set period. That period can be a few months or several years, and the rate may be fixed or adjustable.
The cost of that loan has two sources: the interest you pay for borrowing the money, and any fees or optional products added to it. Both belong in your comparison.
Interest rate vs. APR
The interest rate is what the lender charges you for borrowing the principal. The annual percentage rate, or APR, is the interest rate plus additional fees charged by the lender, expressed as a yearly rate.
Because the APR folds fees in, two loans with the same interest rate can have different APRs. When you compare offers, line up APR against APR. Comparing one lender's APR with another lender's interest rate will mislead you.
APR vs. interest rate, explained
Sources: [1]
Fees that can be added to a personal loan
The Consumer Financial Protection Bureau lists several charges that may apply to a personal installment loan:
- An origination fee
- A documentation fee, charged for processing the paperwork
- Late fees
- Credit insurance or disability insurance, which are generally optional
- Non-filing insurance on some loans secured by collateral
Not every loan has every fee, and amounts differ from one lender to another. The reliable way to know is to read the loan disclosures and documents your lender must give you.
Personal loan fees: what each one means
Sources: [2]
The four numbers on your loan disclosure
For closed-end credit such as an installment loan, federal Truth in Lending rules (Regulation Z) require the lender to disclose, among other items:
- Amount financed: the amount of credit provided to you or on your behalf
- Finance charge: the dollar amount the credit will cost you
- Annual percentage rate: the cost of your credit as a yearly rate
- Total of payments: the amount you will have paid when you have made all scheduled payments
The disclosure also covers your payment schedule, what happens if you pay late, and the terms that apply if you pay the loan off early.
How to read a personal loan disclosure
Sources: [5]
Comparing offers and your credit
Hard inquiries are often made by lenders after you apply for credit. Hard inquiries can affect your credit score because scoring models look at how recently and how often you apply for credit. Soft inquiries, such as checking your own report, do not affect your score.
Whether a particular lender or comparison service uses a soft or hard inquiry at a given step is specific to that company. Ask before you submit anything, and read the consent language on the form.
Credit checks when you compare loans
Sources: [4]
A simple illustration
Hypothetical numbers for illustration only. This is not an offer, a quote or a typical rate.
Imagine two offers for the same amount and the same term. Offer A has a lower interest rate but charges an origination fee. Offer B has a slightly higher interest rate and no fees. Looking only at the interest rate, A wins. Looking at the APR and the total of payments on each disclosure, either one could be cheaper. That is the reason those two disclosed numbers, not the advertised rate, should drive the comparison.
Frequently asked questions
Is APR the same as the interest rate?
No. The interest rate is the cost of borrowing the principal. The APR is the interest rate plus additional fees charged by the lender, so it is usually the more complete number for comparing loans.
Where do I find the total cost of a personal loan?
On the Truth in Lending disclosure your lender provides. The finance charge shows the dollar cost of the credit and the total of payments shows what you will have paid after making every scheduled payment.
Related guides
Sources
- Consumer Financial Protection Bureau. What is the difference between a loan interest rate and the APR?
- Consumer Financial Protection Bureau. Do personal installment loans have fees?
- Consumer Financial Protection Bureau. What is a personal installment loan?
- Consumer Financial Protection Bureau. What is a credit inquiry?
- Consumer Financial Protection Bureau — Regulation Z (Truth in Lending), 12 CFR 1026.18. § 1026.18 Content of disclosures (closed-end credit)