Edited by Michelle Tipsword5 Risks of Taking Out a Personal Loan
Edited by Michelle Tipsword
Quick Answer
Before taking out a personal loan, be aware of the following risks:
Risks of taking out a personal loan include high interest rates, fees, damage to your credit score and an unmanageable debt burden.
There are legitimate reasons to pursue a personal loan: They can help you finance expenses, consolidate debt or reach certain goals, like renovating your home. But a personal loan can also add to your debt, and some come with costly features that are easy to overlook if your focus is solely on getting approved. So it's smart to know what to watch out for.
Here are five risks of taking out a personal loan.
1. High Interest Rates
Personal loan interest rates can be costly, and your credit score is a major determining factor in what you'll pay. With bad credit, your personal loan annual percentage rate (APR) could exceed 30%, and your origination fee—more on that below—could reach into the double digits, significantly increasing the loan's cost.
If you're turning to a personal loan because you can't get approved for a lower-cost financial product such as a credit card with an introductory 0% APR, check the loan's interest rate carefully. Be sure you understand how long you will be paying and the total cost of the loan once interest is calculated. A long repayment timeline or high interest rate could limit the effectiveness of the loan if you're using it to pay down debt or finance a big purchase.
Tip: Use a personal loan calculator to try out different interest rates and loan terms may impact your monthly payment, the total interest you'll pay and your total amount paid.
Learn more: What Is a Personal Loan
2. Prepayment Penalties
Prepayment penalties are fees that are imposed when you bring the loan's balance to zero before its final payoff date. While prepayment penalties are not particularly common in the current personal loan market, some lenders charge them to help make up for the money they expected to earn from interest charged on the loan.
The best way to know if a loan has a prepayment penalty is to ask the lender directly. While these fees must be disclosed, they can be tricky to find in the fine print of your loan documents.
Prepayment penalties and other fees can increase the amount you will ultimately owe on a personal loan. Not every personal loan has a prepayment penalty, so it pays to ask.
Learn more: Personal Loan Fees to Watch Out For
3. Origination Fees
Origination fees are charged by the lender to cover its costs, and are calculated as a percentage of the loan amount. They can range from 1% to more than 10% of the amount borrowed. Most often, lenders subtract the origination fee from the loan amount you receive.
Example: You borrow $10,000 and have a 5% origination fee, you would receive $9,500 as a loan disbursement.
There are lenders that don't charge origination fees, but they typically have more stringent credit requirements as a result. You may not qualify for them if you don't have a good or excellent credit score.
4. Higher Overall Debt
You can use a personal loan to consolidate credit card debt and pay down your balances at a lower interest rate. But getting a debt consolidation loan is best when it's part of an overall debt repayment plan and you've addressed the habits that led to high credit card debt. Otherwise, there's still a risk that, if you have other open credit cards with plenty of available credit, you'll charge them up again and wind up with even more debt than before.
Learn more: Best Debt Consolidation Loans
5. Damage to Your Credit Score
Getting a personal loan can damage your credit score initially and over time. However, whether the loan has a long-term impact on your credit scores hinges on how you manage your personal loan.
Upon application, the lender will check your credit, which leads to a hard credit inquiry. That can lead to a small, short-term drop in your credit score.
Once you've borrowed the loan, your credit will be negatively affected if you pay late or miss payments once you've been approved for the loan. Additionally, a personal loan can add to your total debt borrowed, which can also have a negative impact on your credit scores.
You can avoid hard inquiries for loans you're not ultimately eligible for by prequalifying on lenders' websites. They'll conduct a soft credit inquiry, which won't impact your credit, and you can then apply only for loans you've already prequalified for.
Learn more: Personal Loan Requirements to Know Before You Apply
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View all of our Best Personal Loans for 2026 to see what you’re likely to qualify for, and the rates and terms you might get.
How to Minimize the Risks of a Personal Loan
Used wisely, a personal loan can help you strengthen your credit, pay down debt and bring you closer to attaining financial goals. Take these steps to avoid the potential pitfalls of a personal loan:
- Improve your credit: Focus on your credit score before applying for a personal loan so it's more likely you'll qualify for the most attractive interest rates and lowest fees. Start by checking your credit scores, which you can do for free through Experian by registering for a free account.
- Review your budget: Check your current income, expenses and debt loads for other loans and credit cards to confirm you have the room to add a new monthly payment. Use a personal loan calculator to understand how much you'll likely pay per month based on the amount you want to borrow, and take out the smallest loan you can manage.
- Compare several loan options: Personal loans are available from online lenders, banks and credit unions. Look beyond the APR alone when comparing personal loans. Consider the length of the repayment term, whether the loan is secured by collateral or unsecured and the type of interest rate—fixed or variable. It's smart to check out loans from credit unions first, since credit unions are not-for-profit financial institutions and generally offer lower rates and fees. Banks or lenders you already have accounts with may also provide loyalty discounts to existing customers.
- Set up automatic payments: Use a bank account that reliably has enough money in it to make personal loan payments so you don't overdraw your account. On-time payments are crucial, because just one payment reported as 30 days late can significantly harm your credit score.
Frequently Asked Questions
The Bottom Line
Like other installment loans, personal loans come with the risk that you won't be able to afford ongoing payments, putting your credit score in jeopardy. Other downsides include the potentially high cost of a personal loan in interest rates and fees, especially if you don't have good or excellent credit. Avoid these pitfalls by knowing what to look for when you prequalify and apply for personal loans, and getting your credit in solid shape before seeking out a loan.
If you're considering a personal loan, check your credit report for free from Experian. You'll see where you stand now and get tips to help improve your chances of qualifying for a personal loan at a good interest rate.
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About the author
Brianna McGurran
Brianna McGurran is a freelance journalist and writing teacher based in Brooklyn, New York. Most recently, she was a staff writer and spokesperson at the personal finance website NerdWallet, where she wrote "Ask Brianna," a financial advice column syndicated by the Associated Press.
Read more from Brianna