A personal loan refers to money borrowed from a financial or lending institution to be used for personal reasons. The key factor that differentiates most personal loans from other kinds of loans is that you’re free to use the money as you please.
For instance, when you get an auto loan, you can only spend the money to buy a car. Similarly, if you get a home loan, you are only supposed to use the money to buy a home. With many personal loans, however, there are no restrictions on how to use the money.
Aside from the lack of restrictions on how to use the money, personal loans also have relatively short repayment periods and depending on the lender, they could have fixed interest rates. Typical repayment periods range from six months to four years but there are personal loans that have a repayment period of up to seven years.
Your access to personal loans, as well as the amount of money you can get through a personal loan usually depends on your income, as well as your creditworthiness. Once you get a personal loan, you’ll be required to pay back the loan plus the interest in periodic instalments as agreed with your lender. In most cases, the monthly payments start 30 days after you’re granted the loan.
Just like personal loans, revolving lines of credit, such as credit cards, do not have any restrictions on how you can use the money. So, what is the difference between the two?
The key difference between a personal loan and a revolving credit line is that the revolving credit line gives you continuous access to the funds for as long as the credit line is active.
With a personal loan, you receive a lump sum of money. After using the money, the only way to get access to more money is to apply for another personal loan.
With a revolving credit line, on the other hand, you are given a specified credit limit. You can access this credit, either in full or in part, as many times as you like, provided you don’t go over the limit. Paying down your revolving line of credit gives you access to more credit. This is different from a personal loan, where paying down the loan doesn’t give you access to more funds.
For instance, let’s assume you have a revolving credit line with a credit limit of Ksh500,000. You then use Ksh200,000 from this revolving credit line to stock up your business, and use another Ksh100,000 as down payment for a plot of land you’re acquiring.
At this point, you’ve used up Ksh300,000 from your Ksh500,000 credit limit, meaning you still have access to Ksh200,000. If you then go ahead and pay down Ksh150,000, you’ll now have access to Ksh350,000 in your revolving credit line.
You can keep doing this as many times as you want as long as your revolving credit line is active. This is not possible with a personal loan. With the personal loan, you get a fixed sum of money in a one-time arrangement, which you then have to pay back in regular instalments until the whole amount has been paid back.
However, it is very important to note that interest rates and late repayments for a revolving line of credit work differently as compared to personal loans. You must carefully read the terms of a revolving credit line to fully understand the implications before committing. That is why due diligence is absolutely necessary when deciding between a personal loan and a revolving credit line.
There’s a lot of negative attitude towards personal loans among Kenyans, which can be attributed to the several cases of people who have had their homes and property auctioned after failure to repay their personal loans. So, are personal loans bad?
No. Personal loans are neither good or bad. Used in the right way, personal loans allow you to access funds that can bring you closer to your financial goals.
What you need to do to be safe is being careful when taking a personal loan, following the right steps to ensure you get the best personal loan with the best terms (we’ll discuss how to evaluate a personal loan later in this guide), and, importantly, using the loan for the right reasons.
Personal loans are a perfectly legitimate source of funding that can be helpful for a number of goals. Many personal loans will not have restrictions on what use you put the money to - which depending on how you look at it, can be an advantage or disadvantage.
That said, there are some good reasons for taking a personal loan, as well as some wrong reasons for taking a personal loan. Taking a personal loan for the wrong reasons can easily lead to unintended financial consequences, which is why you need to be very careful when taking a personal loan.
Some good reasons why you could take a personal loan include:
Some wrong reasons for taking a personal loan include:
There are two major categories of personal loans in Kenya – unsecured and secured personal loans.
Unsecured personal loans are personal loans that do not require you to provide collateral to secure the loan. Collateral refers to an asset that you avail to a financial or lending institution to act as security for the loan in case of non-payment.
With an unsecured personal loan, the amount of funds you can access is largely dependent on your income.
Since unsecured loans come with a higher risk of non-payment for lending institutions, these loans usually attract higher interest rates.
Under the unsecured personal loans category, we have some sub categories of personal loans, such as…
These are unsecured personal loans that have very short repayment periods, usually between 1 and 60 days. These loans are perfect for covering emergencies as you wait for your next paycheck.
Short-term unsecured loans are relatively easy to access, they do not require lots of documentation, and they have fast approval times (note that app-based loan providers may be scrapping personal data off your device as an alternative to formal paper documentation) . The trade off, however, is that they only give access to relatively low amounts of money, while their interest rates and late fees are significantly high.
These are unsecured loans that are accessible to employees whose employers have an MOU with the lending institution. With these loans, your loan repayment is taken off your paycheque and sent directly to the lending institution by your employer.
Due to the MOU between the lending institution and your employer, these loans usually have very fast approval times, and it is possible to negotiate for better payment terms.
These are unsecured personal loans that are given on the basis of your salary or income. Unlike check-off loans, however, there is no MOU between your employer and the lending institution, and therefore, the loan payments are not deducted directly from your paycheque. Non check-off loans may give you access to larger amounts and could be approved a little faster. For this to work, you generally have to have the necessary funds in an account with the lending bank or Sacco et. - such as having your salary deposited in the lender’s bank - otherwise you would need to place a standing order (which may attract charges for inter-bank transfers and for all accounts if the deposit date is late) on your salary account.
This is an unsecured personal loan facility that allows you to access your salary, or a portion of it before payday. To be eligible for a salary advance loan, you need to have a salary account with the lending institution. Salary advance loans usually have very fast approval times and subsidized interest rates.
With secured personal loans, you’ll be required to provide an asset to act as security for the loan. If you default on the loan, the lender can seize the asset and sell it to cover your remaining loan balance.
Examples of assets that you can provide as collateral for a secured personal loan include motor vehicles, homes, buildings and parcels of land.
Under the Movable Property Security Rights Act of 2017, movable assets like livestock, machinery, crops, household items like electronics and furniture, as well as intangible assets like intellectual property and performance contracts can also be used as collateral for personal loans.
Under the secured personal loans category, we have some sub categories, such as…
These are personal loans that are secured with your car as collateral. When you take a logbook loan, you will still retain use of your car while repaying the loan, but the lending institution will hold onto your logbook, hence the name.
In case you default on the loan, the lending institution has the right to take possession of your car and sell it to offset your loan balance.
These are personal loans that allow you to borrow against your personal assets. In this case, the lending institution holds the rights to your personal assets until you clear the loan. Examples of assets that you can use as collateral for asset loans include buildings, land, and equipment.
All personal loans are not equal. Before making the decision to apply for a specific personal loan, there are several different characters that you need to take into consideration to ensure you’re getting a good deal. These include:
Before making the decision to take a loan, you need to know if you are eligible for the particular loan product you are interested in. Some factors that could impact your eligibility include:
The interest and other fees charged by the lending institution will affect the total cost of your loan, and therefore, you need to take all these fees into consideration before taking a loan. This will help you determine how expensive the loan is.
Here are the different fees you need to look at before applying for a loan:
This refers to the details of the specific loan facility you are considering. Some things to consider here include:
The repayment details take into consideration the lenders requirements when it comes to making payments, as well as available options that could make repayment more convenient for you. Some things to look at here include:
In Kenya, there are 4 main types of financial institutions that offer personal loans. These are:
Choosing a personal loan is not as simple as applying for the first personal loan you come across. To ensure you are getting the best personal loan for your needs, here are the steps you need to follow when choosing a personal loan.
The first thing you need to do is to decide why you need to take a loan. Do you have an emergency? Do you want to start a business? Do you want to pay for college? Remember, as we saw earlier, there are some good and bad reasons for taking a personal loan. Before proceeding, you need to make sure you’re taking the personal loan for a good reason.
Next, you also need to determine how quickly you need the loan. For instance, if you have an emergency, you definitely need the money as soon as possible, therefore, you should go for loans that have fast approval times.
If, on the other hand, you intend to use the funds to start a business, waiting for a week or two before getting approved for the loan is unlikely to cause any harm.
Once you’ve figured out why you need a personal loan and how quickly you need it, the next thing is to search for the best personal loan products for your needs. For this, you can use the Money254 Loan Finder to find the best option.
At this point, you have several good personal loan options, but you need to make a decision on the specific personal loan product that is best for you. Here, you should look at the terms and considerations we covered earlier in the article, such as interests and fees, disbursement details, loan tenure, repayment details, eligibility requirements, and so on.
When looking at the interest charged on the loan, it is good to note that the interest on some loans is calculated at an annual percentage rate, while others calculate the interest rate on declining balance.
Interest on declining balance means that, instead of paying the same interest throughout the life of your loan, the interest will reduce every month as you pay off your loan premium. While declining balance rates usually attract higher interest rates than fixed interest rates, they end up being cheaper in the long run.
Once you’ve identified the best personal loan product for you, you can then go ahead and make your application. The application process will depend on the institution you are borrowing from.
For commercial banks, microfinance institutions and SACCOs, you’ll typically be required to make your application by filling and submitting paper documents. However, there are some banks, microfinance institutions, and SACCOs that allow you to submit your application digitally.
For digital lenders, the applications are usually submitted digitally, either using the lender’s mobile app, or through USSD.
While personal loans can go a long way in helping you achieve your financial goals and change your life, they also come with some risks that could be very costly for you. Some of the potential risks of personal loans include:
When taking a loan, everyone has a plan on how they are going to pay back the loan. Unfortunately, things don’t always work according to plan.
For instance, let’s say you took a loan to start a business, with the hope that some of the revenue from the business would go towards paying back the loan. However, due to some unforeseen circumstances, such as the COVID pandemic, you are forced to shut down the business, making it impossible for you to pay back the loan.
If you fail to make your payments, this can have severe consequences for you. You may get listed with the Credit Reference Bureau (CRB), you could get sued, and in the case of a secured personal loan, you could end up losing your assets, such as a house or a parcel of land.
Taking a personal loan means that part of your income will have to go towards servicing the loan. This could make it impossible for you to pursue your other financial goals, such as saving money to purchase a home, or saving for retirement.
This is why it is very important to consider whether it is absolutely necessary for you to take a personal loan. If you can take care of your needs without taking on debt, this is often your best option.
Taking a personal loan raises your debt-to-income ratio, which is the ratio of your income that goes towards servicing debt. A high debt-to-income ratio affects your ability to borrow in future when you really need it.
For instance, let’s say you took a personal loan to buy a car that you really don’t need. A year later, you come across a good deal on a home, and you decide to take a mortgage to purchase the home. However, if the repayments on the personal loan you took to purchase a car are too high, your debt-to-income ratio could be too high for you to qualify for a mortgage.
In this case, taking an unnecessary personal loan to purchase a liability (the car) makes you ineligible for a mortgage to purchase an asset (a home).
Unlike other loan types, a personal loan refers to credit taken for, as implied, personal reasons. Your lender may typically ask you to give the reasons for taking the loan, but the reasons you give are unlikely to prevent you from given the loan. Some personal loans will however have restrictions on what that money can be used for.
Nevertheless, lenders will still consider factors such as your credit history, and credit score when deciding whether to approve your loan request or not.
Some reasons people have for taking personal loans include; emergencies, debt consolidation, home repairs or improvements, large purchases, major life milestones such as weddings, child-related expenses as well funerals.
It is of utmost to evaluate your reasons for taking a personal loan and determine if indeed the credit you are taking is adding value to your life, such as helping you cross a major hurdle or, more importantly, earning you extra income.
What counts as value to you may not count as value to the next person - so it is extremely personal - however, you have to bear in mind you will have to repay.
Since personal loans are offered by a majority of lending institutions in Kenya, it is important to compare the choices available for you to get the best deal. ,
Factors to consider include; the maximum and minimum amount you are eligible for, minimum and maximum tenure (repayment period), application approval time and disbursement method. You should consider if an unsecured or secured loan type is what works best for you.
Used in the right way, personal loans allow you to access funds that can bring you closer to your financial goals.