Borrowing with bad credit can be a challenge. Not only is it harder to get approved by a traditional lender, but you might pay more in the form of a higher interest rate.
You may have heard that private loans are a good alternative to traditional loans, and in some cases, that’s true. Understanding where and how to borrow with bad credit can help you safely get the funds you need from the right private money lender.
Basics of Private Loans
As the name suggests, these are loans obtained from a private lender. They fall into one of two categories:
- Loans from a non-institutional lender (that is, not a bank or credit union)
- Student loans that don’t come from the government
Like traditional lenders, private lenders provide a variety of loans for personal and business use. But since these lenders generally aren't held to the same high regulatory standard that traditional lenders are, they tend to provide an easier route to qualification for those with bad or insufficient credit (and with less paperwork). In some cases, they can even offer more favorable, flexible terms on a loan (a shorter repayment period, for example).
You’re probably ready to borrow from anywhere but a bank but don’t rule out community banks and local credit unions. These small institutions may be willing to lend when you have bad credit. Instead of facing a rigid set of rules, talk to a lender to discuss your options. A traditional loan from a bank or credit union is infinitely better than going with a predatory lender who imposes exorbitant interest charges and fees.
Getting Private Student Loans
If you’re borrowing for education, there are two basic types of loans: federal loans made by the government and private loans from non-federal lenders, including banks and credit unions or state agencies.
Federal loans are often your best bet if you have bad credit because they don't require a credit check (except for PLUS loans) and offer fixed interest rates and income-driven repayment plans. It’s typically wise to exhaust those sources before you turn to private student loans. That said, there are limits on how much you borrow each academic year and over the course of your study. If you need more money, and want to choose between a fixed and variable interest rate, you can potentially get that through a private loan.
Banks and Other Financial Institutions
Most students have little or no income or credit history, which makes it hard to show a bank that you have the ability to repay a student loan. However, you may have luck getting a private loan from a community bank or credit union, or a financial services company.
To get approved with a private lender, you will likely need to apply directly through the bank or other financial institution and undergo a credit check. If your own credit reports are spotty, you might need to apply for a loan with a more financially established cosigner (who takes on all of the risks of borrowing with you) to increase your chances of approval.
Student loans are considered easy to get and hard to repay. Borrow as little as possible, and consider how you’ll be able to repay those loans after graduation.
These are student loans from state-based or state-affiliated organizations. Loan benefits vary by loan, but can include low interest rates, delayed interest accrual, and a grace period before repayment begins. In addition, some of these loans may be disbursed directly by the school.
You'll generally need to apply directly through the state agency that offers the loan. In addition to filling out an application, you may be asked to demonstrate your enrollment status and financial need (for a need-based loan).
Getting Private Loans From Non-Institutional Lenders
If the local bank or credit union is hesitant to lend to you, several alternate lenders are available.
Peer-to-Peer (P2P) Lenders
P2P lenders such as Lending Club and Prosper match borrowers with investors over an online platform. They offer personal loans (debt consolidation or buying a car, for example) and business loans. In addition, they handle all aspects of the loan transaction so that the investors and borrowers don't have to interact.
P2P lenders make it easier to borrow, even with some blemishes in your credit reports. For example, while the P2P lender LendingClub generally requires a minimum FICO score of 580, a score that's likely that low because of past credit mistakes. In addition, these private lenders can often help you find a lower interest rate than a traditional lender.
To get a private loan from a P2P money lender, you'll need to undergo a credit check (which can cause a hard inquiry that temporarily dings your credit), submit background information, and verify your income.
These are loans you take out from people you know. Friends or family members with extra cash might be willing to extend a personal or business loan to you.
The benefits of a family loan (or one from friends) are that a person with bad credit can often secure a lower interest rate, shorter or longer loan repayment terms than a bank would offer, and the ability to temporarily stop or reduce payments during a financial emergency.
To avoid misunderstandings that can damage the personal relationship with your lender, start with a detailed, honest conversation that clearly lays out the expectations for the loan. Then, get a formal loan agreement in writing that captures the loan amount, repayment terms, interest costs, and the potential use of collateral or a third-party service that reports payments to the credit bureaus. Reporting payments to the bureaus can help you rebuild your credit, giving you more financing options in the future.
Private Mortgage or Real Estate Lenders
Mortgage companies and brokers, as well as other private lenders specializing in real estate, also offer home and real estate loans to those with bad credit.
Real estate investors who are buying for the first time or who regularly buy and sell homes (and therefore need substantial loans often) particularly stand to gain from working with these private money lenders.
You'll still generally need to undergo a credit and income check to get one of these loans, but private these lenders may be willing to give you a loan for a riskier venture (house flipping, for example) even with an irregular income and lackluster credit score if they think it will be profitable.
Before you fill out an application, sign an agreement, or take any money, make sure you’re working with a reputable and affordable lender. It’s easy to get your identity stolen online or fall prey to an advance-fee loan scam that forces you pay fees before you get a loan. Lenders promising to work with borrowers who have bad credit are often expensive to boot.
- Private lenders often have flexible borrowing requirements.
- You may encounter higher rates from private lenders if you have low credit scores.
- Private loans are available for school tuition, home purchases and more.
- Compare rates from different lenders to make sure you're getting the best deal.