A personal loan can be a useful way to achieve any number of financial goals, such as repaying a major expense over time or consolidating other high-interest debts. But if you aren't intentional about how you manage your loan, it can quickly turn into a burden that leads to financial problems and damage to your credit.
The key to managing your personal loan well is to build debt repayment into your budget, make on-time payments and pay it off in full as soon as you're able. Here are five steps to take to budget with a new personal loan.
1. Decide Where to Keep Your Funds
First thing's first: Decide where to keep your loan funds. If the money is for debt consolidation, you'll simply repay your lenders and you won't have to worry about where to store the funds. But if you took out a loan to fund a purchase, you'll need to decide whether to keep the cash in checking or savings.
You might choose to keep your funds in a savings account, separate from the money you use for everyday spending, to avoid accidentally mixing and dipping into the funds. On the other hand, if you'll be spending the funds right away or on multiple transactions, it might make sense to keep the funds in checking, where you can access them without paying transfer fees.
2. Create a New Budget
Create a budget designed to successfully cover repayment. There are different budgeting methods that can help you effectively manage your money and pay off debt. If you already have a budget that currently works for you, you can rewrite your budget to include loan payments as an essential expense.
If you need to start a budget from scratch, consider these two effective and popular budget systems:
- 50/30/20 budget: This budget plan has you assign half your income to basic expenses (including housing, bills and food), 30% toward discretionary spending and 20% toward savings and debt repayment. Assign a portion of that 20% to at least cover the minimum payments on your personal loans and other other debts. Direct what's left over toward paying more than the minimum (more on this below) and toward building savings.
- Zero-based budgeting: This plan has you assign every dollar you make a task. At the end of a pay cycle, you'll be left with zero money. You'll start by listing all your basic expenses, including minimum debt payments, and subtracting them from your income. What's leftover is what you have to work with: A chunk might go toward savings, paying more than the minimum on your debts and toward spending on other categories, such as dining and shopping.
Whichever method you use, consider using a budgeting app or even a simple spreadsheet to track your expenses and make sticking with your budget manageable.
3. Schedule Automatic Payments
It's crucial to make on-time payments each month to avoid incurring fees and damage to your credit score. The easiest way to ensure you're always on time is to automate your monthly payments. In addition to helping you stay on top of your payments, some lenders also offer a small interest discount when you set up autopay—depending on the lender, this can be around 0.25% less in interest.
4. Aim to Pay Extra
While a personal loan doesn't usually charge an interest rate quite as high as that of, say, a credit card, those interest charges can still add up. The faster you pay off your balance, the more money you'll save over time.
That said, you should check to see whether your lender charges any prepayment penalties. Weigh any costs you'll incur for prepaying your loan against the money you'll save in interest. Even if you'll pay charges, you might find you'll still pay less than you otherwise would in interest over the life of the loan.
Personal Loan Calculator
†The information provided is for educational purposes only and should not be construed as financial advice. Experian cannot guarantee the accuracy of the results provided. Your lender may charge other fees which have not been factored in this calculation. These results, based on the information provided by you, represent an estimate and you should consult your own financial advisor regarding your particular needs.
Try the full Personal Loan Calculator Opens a new window with more features.
To pay off your loan faster, try increasing your automatic monthly payments by a set amount. You can also try setting up biweekly payments, rather than monthly, if your lender allows it. Last, try directing any lump sums of money you receive or extra funds leftover at the end of the month toward your debt. Even a small extra payment can make a big difference over time.
5. Set Priorities
When you take on a new debt, it's natural to focus on eliminating it as soon as possible. But it's important to fit your personal loan into your broader financial picture too.
Here are two important questions to ask yourself as you fit paying off your loan into your financial priorities:
- Do you have higher-interest debts? If so, it may make the most financial sense to focus on aggressively paying down your highest-interest debts, while still paying at least the minimum on all other debts, including your new personal loan.
- Are you investing for retirement? Even when you're in debt, it's best to continue (or start) investing toward retirement if at all possible. If your workplace offers a 401(k) plan, try to contribute at least enough to exhaust any employer match available to you. If not, you can set up an individual retirement account (IRA) and contribute a percentage of each paycheck.
Budget Before You Borrow
If you've already applied for and received your personal loan funds, then your best bet is to reconstruct your budget to effectively manage debt repayment. But if you haven't applied for a loan yet, you're in a good position to plan for what you can afford before you borrow.
Depending on the goal for the funds, ask yourself how much you'd realistically need to borrow to achieve the intended goal. Shop around for prequalified offers to see what rates and loan sizes you may qualify for based on your credit, and determine whether monthly payments would fit well into your budget. You can simplify the process by using Experian CreditMatch™ to view personal loans matched to your credit profile and preview the rates and terms you might qualify for.