Navigating Multiple Personal Loans: Risks & Solutions

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Where to turn if more than one personal loan is weighing you down.

A recent report by The Ascent took a closer look at average household debt in 2020. The wide-ranging study investigated all kinds of consumer debt, from mortgages to auto loans and credit cards. It also examined personal loan debt. And what the study found was surprising.

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Doubling up

According to TransUnion's September 2020 Monthly Industry Snapshot, the average unsecured personal loan debt was $5,538. However, TransUnion also found that many consumers have more than one unsecured personal loan.

A sign of trouble?

If you find yourself with two personal loans, it's not necessarily a problem. Perhaps you began a renovation project and, before the first loan was paid in full, took out another loan to add finishing touches.

Like a second auto payment or credit card, taking out another personal loan may fit your needs and your budget. However, if any of the following are true, it might be time to revisit your strategy.

The first loan was misspent

Let's say you borrowed funds to update your kitchen. Shortly after borrowing the money, your car needed repairs, or your child decided to get married. If the money you initially borrowed was diverted to pay for something other than its intended use, taking out a second loan is an expensive way to get back on track. A better idea: Wait until the first loan is paid in full before filling out another loan application, or use the time until you've paid off the first loan to save up for any project(s) you have planned.

You need a new loan to cover the first

Payday lenders are infamous for charging ridiculous interest rates that make it difficult for borrowers to pay their loans in full by the due dates. Once borrowers realize they cannot pay a loan in full, it's common for them to take out another loan to cover the first one, digging themselves into a deeper hole.

This practice is not just reserved for payday or title loans. If, on paper, it appears you can afford to make loan payments, you may have qualified for a personal loan through a bank. But if you're overspending and have trouble meeting the loan payments, it can be tempting to take out another loan in an attempt to make things easier. Even if your credit is strong enough to get away with that, it is not a good idea.

If you have trouble making a loan payment, never borrow more to cover the first obligation. Instead, reconfigure your monthly budget, figure out what you can live without until the loan is paid in full, and commit to retiring the debt as quickly as possible.

Your debt-to-income (DTI) level is out of whack

If you're steaming along, handling money like a pro, it may be easy to snag a loan when you need it. Still, it is crucial to be aware of how much you owe in relation to how much you earn. This is called your debt-to-income ratio. To figure out your DTI, add up your fixed monthly payments and divide that total by your gross income (the amount you earn before deductions).

Lenders ask for proof of income when you apply for a loan because they want to know your DTI. The allowable DTI varies by lender and loan type. However, according to the Consumer Financial Protection Bureau (CFPB), evidence shows that mortgage borrowers with high DTIs tend to run into trouble making their payments.

If taking out a second personal loan raises your DTI, one of two things could happen:

1. You may have trouble making the payments as promised.
2. You may have trouble qualifying for another loan if the need arises.

If you have more than one personal loan, yet your DTI remains low, this may not be a concern for you. But if having a second loan on your plate pushes your DTI into an uncomfortable range, it's time to pay the debt off as quickly as possible. Ultimately, the goal is to make your financial situation as comfortable as it can be.

When debt is a problem

If debt is keeping you awake at night, help is available. Non-profit organizations like National Foundation for Credit Counseling (NFCC) can set you up with a trained counselor to help you devise a budget that works for you and retake control of your finances.

Personal loans can be a fantastic tool -- the perfect way to finance projects that increase your home's value, or achieve personal goals. Like all financial tools, though, personal loans are most effective when handled with care. Before you go to the trouble of applying for a personal loan, make sure you have a solid plan.

The Ascent's Best Personal Loans for 2021

The Ascent team vetted the market to bring you a shortlist of the best personal loan providers. Whether you're looking to pay off debt faster by slashing your interest rate or needing some extra money to tackle a big purchase, these best-in-class picks can help you reach your financial goals. Click here to get the full rundown on The Ascent's top picks.