What is a signature loan and how does it work?

If you’re looking for a loan that doesn’t require you to have collateral, a signature loan could be a good solution. Signature loans can be used for almost any purpose. Plus, you can receive funds fast — some lenders issue funds as soon as the same business day.

However, like all financial products, these loans have disadvantages. Some lenders charge fees, and you may receive a high interest rate. Before you apply for a signature loan, look into the details of these loans to be sure it’s the right choice for you.

What is a signature loan?

A signature loan is an unsecured personal loan. Unlike a secured loan, this type of loan doesn’t require you to pledge collateral — something of value, like a bank account or house — a lender can seize if you fail to repay the loan. Instead, the loan is backed by your signature, which represents a legal promise to repay the loan funds.

Because the loan is unsecured, lenders typically charge a higher interest rate than secured loans, such as mortgages and auto loans. The average interest rate for signature loans is often lower than the average interest rate for credit cards.

Also, loan funds can be used for almost any purpose, such as medical emergencies, debt consolidation and major life events.

How does a signature loan work?

When you apply for a signature loan, a lender considers factors such as your credit history, income and credit score to determine whether you qualify for a loan. These factors also help a lender determine your interest rate and loan amount.

If you’re approved for a signature loan, a lender will issue you a lump sum of cash. You then repay the loan amount, plus interest, over a set repayment period that typically ranges from 24 to 60 months or longer.

Is a signature loan different from a personal loan?

A signature loan is not different from a personal loan. Instead, it is one of many types of personal loans. Personal loan is a broad term that applies to various types of loans including secured loans, unsecured loans, debt consolidation loans, variable rate loans and more. A signature loan, which does not require collateral, is simply an unsecured personal loan.

What are the best uses of a signature loan?

The best use of a signature loan depends on your unique financial circumstances. Here are some scenarios where using one might make sense.

Debt consolidation

If you have high-interest debt, like credit card debt, using a signature loan to consolidate debt could be a good financial move. Debt consolidation means paying off your existing debts with a new loan. If you qualify for a signature loan with an interest rate that’s lower than the average rate on your current debt, you can save a ton of money on interest.

Emergencies

Signature loans also work well for covering unexpected expenses, such as medical emergencies, car repairs and home repairs. If you don’t have an emergency fund or the expense is too large to cover, you may be able to receive funds quickly.

Major life events

If you need to pay for an expensive event, like a wedding, move to another state or an anniversary party, a signature loan could help. Just remember to only borrow what you can afford to repay.

Where can you get a signature loan?

You can get a signature loan from several financial institutions, including banks, credit unions and online lenders.

Banks

Traditional banks offer signature loans. If you already have a relationship with a bank, reach out to its customer service department to see if it offers signature personal loans. You may receive an interest rate discount for being an existing customer. Alternatively, you contact a bank by phone to see if it offers unsecured personal loans.

Credit unions

Some credit unions offer signature loans, and the interest rate is often lower than those offered by banks. For example, the average rate for a three-year unsecured personal loan at a credit union was 9.66 percent as of the fourth quarter of 2022, according to The National Credit Union Administration. By contrast, the average three-year rate for a personal loan at a bank was 10.40 percent.

To take a personal loan out at a credit union, you must be a member or apply for membership.

Online lenders

Multiple online lenders offer unsecured personal loans. To find them, you can visit an online marketplace or search for individual lenders. An advantage of applying with an online lender is that most allow you to prequalify to check your estimated rates and terms, without harming your credit score.

How much can you borrow on a signature loan?

Though the exact limits will vary by lender, you can generally borrow as much as $50,000 with a signature loan, according to Experian. In some cases, lenders may offer as much as $100,000 for signature loans.

A lender’s decision about how much an applicant can borrow is based on factors such as credit score and income. In general, signature loan amounts will not be as high as other types of loans because there is no collateral being provided to secure this type of loan should you default on payments.

Pros and cons of signature loans

Before you take out a signature loan, make sure you weigh the pros against the cons.

Pros

• Quick funding. Do you need money fast? Some lenders may issue your loan funds the same business day or within a few business days after loan approval.
• No collateral needed. Since all signature loans are unsecured loans, you don’t have to worry about a lender repossessing your car or foreclosing on your home (unless a court awards a judgment to the lender).
• Lower interest rates than credit cards. The average personal loan interest rate is typically lower than the average credit card interest rate.

Cons

• Some lenders charge fees. Origination fees, late fees, and prepayment penalties can greatly increase your borrowing costs.
• Potentially high interest rates. If you have bad credit, a lender may charge you a high interest rate. Some lenders have maximum advertised interest rates that are higher than 30 percent.
• Late payments can damage your credit score. If your payment is more than 30 days late, it can cause major damage to your credit score, making it harder to qualify for future loans.

How to get a signature loan

If you think taking out a signature loan is right for you, follow these steps to get one:

1. Review your credit report. Inaccurate and incomplete information can lower your credit score. Before you apply for a loan, review your credit reports to make sure they are accurate. You can obtain one credit report for free every week by visiting AnnualCreditReport.com. If you find a credit reporting error, dispute it with each credit agency that lists it.
2. Prequalify with multiple lenders. Compare your loan options by prequalifying with as many lenders as possible. Once you submit your application, a lender will perform a soft credit check to review your credit, which has no impact on your credit score. If you prequalify, you’ll be given estimated rates and terms.
3. Submit a formal loan application. Once you’ve chosen a lender, complete a loan application. You’ll likely be asked to submit personal and financial information, such as your name, employer, social security number (SSN), income and bank statements.
4. Sign the loan agreement and receive funds. If your application is approved, a lender will send you a loan agreement to sign. Review the terms carefully and sign if you agree with them. Afterward, the lender should deposited the funds into your bank account within a couple of business days.
5. Repay your loan. Make sure to repay your signature loan as promised. If you miss payments, you may pay a late fee and it could damage your credit, making it harder for you to take out future loans. Enroll in auto pay or use a spreadsheet to stay on top of your due date.