Key takeaways
- A personal loan can help you build wealth through investing, but can be a risky strategy for doing so.
- Some lenders disallow using loan proceeds to make certain investments, such as in mutual funds or stocks.
- If you decide to take out a loan to invest, it could be worthwhile if it strengthens your career prospects or long-term financial standing.
- Be sure to read the fine print if you decide to invest with a personal loan to avoid issues with the lender.
Whether you’re planning for a large purchase or paying for an emergency home repair, a personal loan can be a helpful tool. Because funds from personal loans can be used for nearly any purpose, you might even be considering using one for investing.
While you may be able to use personal loans for investing, this method also carries serious risks. You might lose money on investments and still be obligated to pay the loan with interest. Using a personal loan for investing is best for low-risk investments and people with a solid grasp on their finances and the investing process.
Can I use personal loans for investing?
It is possible to use a personal loan for investing, though doing so is risky. When you take out this type of loan, the money is provided in a lump sum that can be used for nearly anything.
Investing comes with risks, including the possibility of losing the money entirely. This type of outcome could put you in a difficult situation if you intend to use investment proceeds to repay the loan.
Keep in mind:
Some lenders may prohibit the use of borrowed funds for specific types of investments, so be sure to read the fine print before committing to a loan for this use.
Pros and cons of using personal loans for investing
While personal loans can be a fast and flexible financial vehicle for borrowers, the expenses associated with borrowing may well outweigh your prospective financial gains. Be sure to balance the pros and cons carefully before committing.
Pros
- Personal loans can be approved and funded in as little as 24 hours, so you can invest right away.
- Borrowers with excellent credit may be able to score a low interest rate.
- Personal loans may be used flexibly, so this is a convenient option if you need funds for several different purposes, including investments.
Cons
- Fees and interest rates may cancel out any gains you make (and then some), even if your investment sees good returns.
- Borrowers with fair-to-good credit may not qualify for the best interest rates, thus increasing the cost of borrowing a personal loan.
- The risks of investing personal loan funds can be significant. If you lose money through failed investments, you still need to repay any loan money you’ve borrowed.
When is it a good idea to take out a personal loan to invest?
Using a personal loan to make the right type of investments can help improve your financial well-being.
You’re pursuing career growth
In some professions, a special certification or professional license may be required to advance and make more money. Private student loans require enrollment minimums to attain, so looking into a personal loan for this purpose may make sense for you, particularly if you are in a field where continuing education is needed for upward mobility.
Bankrate’s take:
You’ll generally pay a higher interest rate than you would for a student loan. If you attend a continuing education program at least half-time, it may be worth investigating Direct Unsubsidized Loans from the federal government, which offer lower interest rates.
You’re boosting your earnings
Many people boost their monthly income through side hustles or small businesses that started off as hobbies and passion projects. If you’re looking to launch your own side venture, a personal loan could offer the funding you need to get started.
Using a personal loan to invest in a side hustle can be a wise investment if you take the time to develop a sound business plan that shows you have thought through how to generate income and pay back the loan.
Bankrate’s take:
It may be easier to qualify for a personal loan to invest in a passion project than it would be to qualify for a business loan. Make sure to review all your funding options and find the most cost-effective choice that will charge the least interest and have repayment terms that best meet your financial needs.
You have excellent credit
Your credit score is one of the biggest factors that influence how much a personal loan will cost you. If you have an excellent credit score – for example, a FICO score of 800-plus – you have a better chance of qualifying for a lender’s lowest interest rate, making your investment of the funds less risky overall.
You can afford the monthly payment
Consider whether you feel financially comfortable making the loan’s monthly payment, regardless of how your investment performs. Factor in any existing debt you’re repaying and any savings goals you are pursuing. If, after you’ve crunched the numbers and looked carefully at your budget, you still feel confident about your ability to repay the loan, this might be an option for you.
Instead of borrowing a loan for investments, you may consider fractional investing, through which you can buy into investments gradually. This option also allows you to avoid the interest and risks associated with a personal loan.
When is it a bad idea to take out a personal loan to invest?
Unfortunately, risky investments, a lower credit score or a shorter window before retirement can make taking out a personal loan more costly.
The investment is risky
Some investments are considered high-risk. Investing in the stock market, for example, is considered very risky. Adding debt to your investment portfolio makes your investment strategy more volatile overall.
Bank deposit products, like money market accounts and savings accounts, are considered low-risk investments since they’re insured by the Federal Deposit Insurance Corporation (FDIC) or the National Credit Union Administration (NCUA). These investment vehicles offer lower returns because they’re low risk.
Your credit score is average
If you don’t have excellent credit, you won’t qualify for a lender’s lowest advertised loan rate. With some personal loan rates as high as 35.99 percent APR, the cost of the loan might exceed your potential investment return.
In addition, there will be fewer lenders that will offer you a loan. It could be worth working to improve your credit before applying for a loan so that you are offered better rates and lower fees.
You can’t afford a failed investment
If you need the investment to deliver on its suggested returns to afford your personal loan, this is a bad idea. No investment can offer a 100 percent guarantee on returns, and you’ll need to start repaying your personal loan immediately with interest.
If you fall behind on your monthly payments, you may also be charged late payment fees. A better idea is to explore options with less risk and volatility, like money market accounts.
You face steep fees
Before you commit to a personal loan, be sure you know all of the associated costs. Origination fees, which are upfront fees charged to process your loan application, can be as much as 10 percent of your loan amount.
These are not the only fees associated with personal loans. There may also be late fees and prepayment fees for paying off the loan early. All of these fees may eat away at any profit you make from an investment. It could be more sensible saving up small amounts over time to use toward investments rather than paying for immediate access to start investing now.
You’re at or nearing retirement age
As you approach the end of your working years, you should aim to reduce your expenses. Adding debt like a personal loan just as your income decreases could put your retirement savings at risk.
You may also face more serious challenges if the investment doesn’t deliver and you default on the loan. Your credit score will be impacted, and you may face lawsuits from lenders, which could eat into your retirement savings even more.
What to consider before borrowing to invest
Here are some factors to keep in mind to give yourself the best chance at making an informed decision.
- Investment knowledge: Borrowing to invest requires a keen understanding of the market, the risks and returns of each investment vehicle and a solid grasp of your risk tolerance.
- Current loan rates: Financial institutions and lenders often set their interest rates based on the federal funds rate. When the economy is down, the Federal Reserve can lower the federal funds rate to stimulate economic activity.
- Financial portfolio: Debt from a personal loan can complicate your investment strategy. Consult with an investing advisor to gauge if taking out a personal loan makes sense.
- Your personal risk tolerance: Before you decide to use a personal loan for investing, it’s important to seriously consider your risk tolerance for potential losses.
Bottom line
Using personal loans for investing isn’t for everyone. There’s always a danger that your investment might not yield the return you anticipated. Other events, like an unexpected layoff or a hospital bill, can also derail your monthly finances, making it difficult to repay the loan.
If you’re in a stable financial position, have spoken to an investment professional and feel that borrowing to invest is the right choice, make sure to compare different types of personal loan lenders. Whether you go through a traditional financial institution, online lender or peer-to-peer lender, each has different terms, rates and fees that you’ll want to assess.
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