What is an Installment Loan?

An installment loan is any type of loan for which you receive the principal all at once and repay it with interest through monthly payments called installments. 

The term covers a variety of loans, including student loans, personal loans and mortgages. Let’s explore the details of installment loans so you can decide if they’re the right choice for your financial situation.

How does an installment loan work?

How the loan works will depend on the type of installment loan. 

Unlike a line of credit, with an installment loan, borrowers typically receive a lump sum amount. With some installment loans, like mortgages, the amount goes toward buying something specific (in this case, a house). With others, like personal loans, borrowers typically receive the funds as cash. Once you repay the loan, the account is closed. 

Installment loans can be secured or unsecured. Secured loans require the borrower to provide collateral, such as a house or car, to “secure” the loan. If the borrower cannot repay the loan, the bank may repossess the collateral to recover the amount owed.

Unsecured loans do not require collateral. Instead, the lender evaluates the borrower’s creditworthiness and income to determine their eligibility. Because lending without collateral can be riskier for banks, they may charge a higher interest rate.

Installment loans can have a fixed or variable interest rate. A fixed rate stays the same over the life of the loan while a variable rate can change. Having a variable rate loan means the monthly payment amount can also vary.

In general, eligibility for an installment loan depends on factors like your creditworthiness and income, which can also influence the terms. 

Types of Installment Loans 

Many different credit products fall under the umbrella of installment loans, but all involve a one-time disbursement of funds and repayment in installments. 

Here are some common installment loans.

Fixed Rate Mortgages

A mortgage is a secured installment loan that allows you to purchase property, with the property functioning as collateral. Borrowers typically repay fixed-rate mortgages in fixed monthly payments over 15 to 30 years. Eligibility and loan terms are subject to the borrower’s creditworthiness and income. The property’s appraised value may also determine some of these factors.

Adjustable Rate Mortgages

Adjustable Rate Mortgages (ARMs) typically start at a lower rate, but change over time based on financial market conditions, meaning the rate can go up or down. These changes are then reflected in your monthly payment. For example, if your rate goes up, so will your payment. In some cases, ARMs are capped to limit your monthly payment from changing too much.

Auto Loans

Auto loans are secured installment loans where the vehicle you’re purchasing serves as collateral. You use the loan to pay for the car upfront, then make monthly payments to repay the amount borrowed plus interest.

Personal loans

Personal loans are unsecured installment loans that you can use to cover a variety of expenses, from home renovations to car repairs. You can also use a personal loans to consolidate debt. Personal loans usually have fixed interest rates, and you repay the loan in fixed payments over a set term.

Buy now, pay later (BNPL)

Buy now, pay later (BNPL) loans are a type of installment loan that allows consumers to make a purchase and pay for it over a series of smaller, fixed payments. BNPL loans are often available at the point of sale, though your credit card may allow you to convert certain purchases to BNPL. BNPL loans typically come with short repayment terms ranging from a few weeks to a few months.

Benefits of installment loans

Installment loans offer a few key benefits:

Fixed monthly payments: Installment loans typically come with fixed interest rates, which can mean your payment is the same amount for the life of the loan. This can make it easier to plan your monthly budget.

Impact on credit: Installment loans may help diversify your credit mix. Making timely payments can also help you build a positive credit history. 

Refinancing opportunities: If you’ve recently improved your credit or if interest rates go down, you may be able to use an installment loan to refinance a higher-interest loan you already have. 

Drawbacks of installment loans

While installment loans can be a useful financial tool, here are a few things to consider before deciding whether one is right for you:

Limited flexibility: Once you’ve borrowed the full amount of an installment loan, you can’t access additional funds. Unlike credit cards or lines of credit, you can’t simply borrow more money if you need it later – you’ll typically need to take out a new loan.

Interest: If your credit score isn’t strong, you may be offered a higher interest rate, which can mean paying more over time.

Impact on credit: As with any loan or line of credit, while responsible repayment can help you build credit, missing payments on an installment loan can have negative consequences for your creditworthiness.

Term lengths: Installment loans often come with long repayment periods, which can lead to paying a significant amount in interest over time.

How do you get an installment loan?

Because there are several different types of installment loans, the approval process can vary. For example, with a mortgage, you’ll typically have to provide a lot of documentation and have a home appraisal before you’re approved, but with a personal loan, you might only have to fill out a short application with your personal details. In general, here are the steps:

Decide how much you need: This step might involve deciding how much you want to spend on a new home or car and how much you want to put down. It may happen earlier in the process depending on the type of installment loan you’re looking to take out. Regardless of the loan type, you’ll want to do some math to figure out what your payments might look like with certain repayment terms. Understanding your monthly payment and how long the loan term is can help you decide how much you want to borrow.

Compare lenders: Once you know how much you intend to borrow, compare different lenders to find the best rate and terms for you. Some lenders may offer online pre-qualification for certain types of installment loans, which can help you determine your eligibility and can give you an idea of the loan terms without affecting your credit.

Apply: After you’ve decided on a lender, the next step is to apply. You’ll provide any necessary documentation and information about your credit and finances. If approved, a lender will tell you what terms they can offer, and you can decide whether to move forward.

When should you consider an installment loan?

For a one-time expense with a clear cost, an installment loan may be a viable option if you can secure the funds you need at a reasonable interest rate. Before you take out an installment loan, though, it’s important to examine what interest you may accrue and what fees are included.

Citi offers personal loans to both existing Citi customers and new Citi customers that meet specific eligibility criteria, including an established credit and income history along with additional factors determined by Citi. If you think you could benefit from a Citi Personal Loan, apply online today.

This article is for educational purposes. It is not intended to provide legal, investment, or financial advice and is not a substitute for professional advice. It does not indicate the availability of any Citi product or service. For advice about your specific circumstances, you should consult a qualified professional.

Additional Resources

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