Most Common Examples of Installment Loans and How They Work

Installment loans are a cornerstone of the modern financial landscape, offering individuals and businesses a structured way to borrow money for various needs while repaying it over time in manageable installments.

Key Takeaways

• Installment loans are widely available from banks, credit unions, online lenders, and specialized loan companies, offering structured repayment plans for various needs.
• No matter what the type, they all should allow for monthly repayment terms or installments.
• It's important to shop around and compare offers from different lenders to find the best installment loan for your needs, whether it's for a mortgage, auto loan, personal loan, student loan, or other purposes.

Installment Loans: What They Are and How They Work

Installment loans come in a few different forms, but they are often used when an individual needs to pay for a large expense, such as a car, a house, or something similar. They are paid back in installments over an agreed-upon time — hence the name. Some installment loans are designated for specific purposes, like funding education, while others offer more flexibility, catering to a wide range of financial needs.

7 Most Common Types of Installment Loans

As indicated above, there are multiple types of installment loans, and they can be used for several different purposes. It’s important to understand this if you are considering taking out an installment loan, as you need to know which would be most suitable for your circumstances.

1. Personal Loans

Personal loans are a very flexible option that can be used to pay for a wide range of different expenses. People may use them to deal with emergency expenses like a sudden, unexpected house repair after bad weather, or an unexpected medical bill, for example.

Many personal loans are unsecured and don’t require the borrower to have collateral, and there are various sources for these loans. Some personal loans will come with restrictions on where and how you can spend the money, but they tend to be flexible and you can use them for most kinds of legitimate expenses, and sometimes even for big-ticket items like vacations.

2. Auto Loans

An auto loan could be appropriate for somebody who is looking to purchase a vehicle, and if you don’t want to take an auto loan from the dealership, this could be another option to consider. Many online lenders, banks, and credit unions will provide auto loans when you need to purchase a new car.

Like other kinds of installment loans, you will generally be repaying the money in fixed installments, but unlike personal loans, they will usually require collateral. Often, the vehicle you purchase serves as the collateral, meaning that if you don’t pay your loan back, your car will be repossessed by the lender to cover some of the loan costs.

3. Student Loans

For individuals who are going back to college, a student loan could be an effective option for covering all kinds of expenses — and not just course fees. You can use this kind of loan to cover your rent, food, and course supplies. Many people turn to this kind of borrowing when they’re keen to get back into education.

There are federal student loans available for many individuals, but there are also private lenders for those who would prefer this option. The eligibility requirements may vary. Many student loans are unsecured, and you may not begin making payments until after you have graduated, although this is not guaranteed.

4. Mortgages

A house purchase is one of the biggest financial decisions that most individuals will make in their lifetime, and a mortgage is an extremely common way to make this purchase possible. There are multiple kinds of mortgages available, with different payback periods, often of either 15 or 30 years.

Individuals considering a mortgage loan should spend time shopping around and considering different providers before making a decision. There are many options to consider, including government-insured mortgages, fixed-rate options, and more. In general, this kind of loan is secured by the house.

5. Buy Now, Pay Later Loans

When dealing with a big purchase, it can help to break things down into smaller chunks, and that’s what a Buy Now, Pay Later (BNPL) loan allows individuals to do. They let you defer your payment across a few weeks, months, or even years, depending on the purchase and the lender.

They’re an alternative to credit card debt for many people, and they are sometimes easier to get approval for. If you need to buy something that’s currently outside of your budget, a BNPL loan might help you out.

Not all BNPL loans will charge fees and interest, which can make them an effective way of handling large purchases that cannot wait, such as domestic appliances.

6. Business Loans

Business loans, as the name suggests, are suitable for businesses that need money to cover a large expense and don’t necessarily have enough cash available. Many businesses can get unsecured loans, depending on their circumstances.

There are also different loan lengths available, so businesses can borrow money over a few months or sometimes even over a few years. For businesses that are ready to expand, this is a particularly beneficial approach when used in the right circumstances.

7. Other Secured Loans

There are other kinds of secured loans available, such as payday loans. These are short-term loans that are generally repaid on the next payday, although this can depend on the terms of the loan. Payday loans essentially bring your next payday forward and let you dip into your work check early.

There are a few other kinds of secured installment loans too, so if you have collateral, you might want to look through your options before making any decisions.

Pros and Cons of Installment Loans

We’ve gathered some general pros and cons about installment loans as a loan type. Because there are so many types, some of these may not apply to each. There are some distinct differences between a mortgage and an auto loan, but we’ve distilled it down to the basics.

Pros of Installment Loans

• Structured repayment. Installment loans offer a structured repayment plan, making it easier to budget for payments over time.
• Flexible use. These loans can be used for various purposes, such as home improvements, medical expenses, or debt consolidation.
• Predictable payments. With fixed monthly payments, you know exactly how much you need to pay each month, which can help you manage your finances more effectively.

Cons of Installment Loans

• Costly for some borrowers. If you have a low credit score, you may be offered a higher interest rate, making the loan more expensive overall.
• Impact of missed payments. Missing payments or being late can have negative consequences, including late fees and potential damage to your credit history. 

How Do I Qualify for an Installment Loan?

Quite a few factors affect your eligibility for an installment loan, and it’s important to understand this if you are thinking of applying for this kind of loan. Let’s check out all of these factors.

Age

First of all, you can only apply for this kind of loan if you are of a certain age. In many cases, this will be 18 years old, although it may vary depending on where you live and which lenders you talk to. Some may require you to be 21 or 25 to get an installment loan, so be aware of this before you make an application.

Income

Your income will be a significant factor in determining whether you can get an installment loan and how much money you can borrow. Having a steady income from a job is usually a critical aspect of getting this kind of loan, and if you’re not employed, you will likely find it challenging to get a loan.

Debt-to-Income Ratio

This number will often be expressed as a percentage (such as 20%) and it shows how much money you have coming in, versus how much you owe to other sources. If your debt-to-income ratio is too high, you won’t be able to get an installment loan. In most cases, you’ll need a debt-to-income ratio of below 40%, although different lenders may have different requirements.

Related: Acceptable debt to income ratios

Credit Score

Your credit score also has a big effect on whether you can get an installment loan and what rates you will be offered. The better your credit rating is, the better the installment loan you can take out is likely to be. If your credit rating is very poor, you may find that you can’t get an installment loan, or that you’re more limited in the kind of loan you can take.

What Are the Benefits of an Installment Loan?

Installment loans have lots of benefits. We touched on them briefly in our “pros and cons” section above, but let’s explore them more fully now so you understand why these loans are often considered a good approach to borrowing money.

Many online installment loans allow you and the lender to set up a fixed monthly payment, which is the amount of the loan you agree that you will repay each month. This amount will stay the same throughout the loan until it is all repaid. The amount can be relatively small because installment loans are paid back over a longer period than many other kinds of loans.

Because they don’t require all the money to be repaid at once, they can be easier to manage than some other kinds of loans. You just pay the money back in small increments.

It’s important to discuss the terms of the loan and repayment in more detail before you agree to one because this will depend on what kind of installment loan you get. With student loans, for example, repayments won’t start until you have finished your course (in most cases). Understanding what the fixed monthly payment is going to be makes it easier to balance your finances.

It means that you can budget for it and you will know exactly how much you need to set aside each month. This makes it easier to manage your outgoings and stay on top of payments. If you know your loan will cost, for example, $50 per month, you can put aside $50 every month when you create your budget.

This makes it easier to ensure that you always have the money needed for the repayment and reduces the risk of you being late or missing a payment. It’s a significant benefit that makes installment loans preferable for many people.

Where Can I Get an Installment Loan?

Many places offer installment loans, so it’s important to shop around and find one that seems right to you.

• Mortgage loans. Mortgage loans are commonly obtained from banks, credit unions, and mortgage lenders.
• Auto loans. Auto loans can be obtained from banks, credit unions, online lenders, and dealerships.
• Personal loans. Personal loans are offered by banks, credit unions, online lenders, and peer-to-peer lending platforms. Each lender may have different terms and eligibility criteria, so it's advisable to compare options before applying.
• Student loans. Student loans can be obtained from the federal government through the Free Application for Federal Student Aid (FAFSA). Private student loans are available from banks, credit unions, and online lenders. Federal student loans typically offer more favorable terms and lower interest rates than private loans.

What Should You Look Out for with Installment Loans?

It’s a good idea to look out for things like fixed-rate loans for the reasons listed above, but you should also make sure you choose a reputable provider who has positive reviews. Here are some additional points to consider:

Factor	Consideration
Loan Terms	Review the duration of the loan and the repayment schedule to ensure they fit your financial goals and ability to repay.
Loan Amount	Borrow only what you need to minimize interest costs.
Fees	Be aware of and compare origination, prepayment, and late payment fees across lenders.
Customer Service	Consider the quality of customer service for assistance during the loan process.
Additional Features	Look for flexible repayment options or other features that align with your needs.

By carefully evaluating these factors, you can choose an installment loan that meets your financial needs and offers favorable terms and conditions.