What Is Historical Volatility & How Do You Use It?

A Guide to Historical Volatility

Historical volatility (HV) measures the range of returns on a market index or security over a given time period. When an asset’s historical volatility is going up, that means its price is moving further away from its average (in either direction) more quickly than usual.

A stock’s historical volatility is typically one standard deviation using daily returns, and it’s one factor that investors often look at to gauge the risk of a potential investment. An asset’s historical volatility is different from its implied volatility. Read on to learn what historical volatility is, how historical volatility works, and how to calculate historical volatility.

What Is Historical Volatility?

Historical volatility is a statistical measurement of the price dispersion of a financial security or index over a period. Investors calculate this by determining the average deviation from an average price. Historical volatility typically looks at daily returns, but some investors use it to look at intraday price changes.

Analysts can use any number of trading days when calculating historical volatility, but typically options traders focus on a time period between 10 and 180 days. Options traders use historical volatility and implied volatility when analyzing trading ideas.

Investors typically express historical volatility as a percentage reflecting the standard deviation from the average price, based on past price behavior, but there are also other methods they can use to determine an asset’s historical volatility. Unstable daily price changes often result in high historical volatility readings.

How Historical Volatility Works

Historical volatility takes past price data to calculate an annualized standard deviation value that measures how much past prices deviate from an average price over a given period. When a stock sees large daily price swings compared to its history, it will typically have a historical volatility reading. Historical volatility does not measure direction; it simply indicates the deviation from an average.

When a stock’s historical volatility is rising or above average, it means daily price changes are larger than normal. When it is lower than average, a stock or index has been relatively calm.

How Historical Volatility is Calculated

The historical volatility formula is typically a standard deviation measurement. It takes a stock’s daily price changes and averages them over a period. There are several steps to calculating historical volatility:

1.    Collect historical prices

2.    Calculate the average historical price over a period

3.    Find the difference between each day’s price change versus the average

4.    Square those differences

5.    Find the sum of those squared differences

6.    Divide those differences by the total number of prices (this finds the variance)

7.    Calculate the square root of the variance

The historical volatility formula is a tedious step-by-step process, but most brokerage platforms automatically calculate it. Many brokers even offer historical volatility charts. With a historical volatility chart, you can easily compare changes through time. For example, if a stock reacted sharply to an earnings release, the historical volatility charts will show a jump immediately after the earnings date while implied volatility might drop sharply after the earnings report.

How to Use Historical Volatility

Traders sometimes use historical volatility to help set stop-loss levels. For example, a day trader might take three times a stock’s daily average range – a measure of historical volatility – to set a stop price. This is known as volatility ratio trading.

Traders also use historical volatility when analyzing a stock, fund, or index to get a sense of its riskiness. High or low historical volatility stocks are not inherently bullish or bearish. Day traders might seek high historical volatility stocks as candidates for high-profit trading opportunities (but they also come with high loss potential).

You can also use historical volatility to help determine whether a stock’s options are expensive to help determine an options trading strategy. If implied volatility is extremely high when compared to a stock’s historical volatility, traders may decide that options are undervalued.

Historical vs Implied Volatility

Like historical volatility, it measures fluctuations in an underlying stock or index over a period, but there are key differences between the two indicators. Implied volatility is a forward-looking indicator of a stock’s future volatility.

The higher the historical volatility, the riskier the security has been. Implied volatility, on the other hand, uses option pricing to arrive at a calculation and estimate of future volatility. If implied volatility is significantly less than a stock’s historical volatility, traders expect a relatively calm period of trading, and vice versa.

Typically, when implied volatility is low, options pricing is low. Low options prices can benefit premium buyers. Sometimes investors will use a graph to determine how an option’s implied volatility changes relative to its strike price, using a volatility smile.

Historical Volatility

Implied Volatility

Measures past price data to gauge volatility on a security Uses forward-looking option-pricing data to gauge expected future volatility on a security
Higher historical volatility often leads to higher options pricing and higher implied volatility Imminent news, like a company earnings report or a key economic data point, can drive implied volatility higher on a stock or index
Traders can use historical volatility to help set exit prices Traders can use implied volatility to find stocks expected to exhibit the biggest price swings

The Takeaway

Historical volatility is a useful indicator for both institutional and retail investors looking to get a feel for the level of recent fluctuations in a stock or index has been in the recent past. It measures a security’s dispersion of returns over a defined period. Implied volatility is a similar tool, but it is forward-looking and uses option pricing to arrive at its output.

While options trading and the use of historical volatility is helpful for some advanced traders, you can also get started investing today using a more straightforward approach with stocks and exchange-traded funds (ETFs) by opening an online brokerage account on the SoFi Invest® investment platform. SoFi offers active trading solutions that allow you to trade stocks and ETFs without paying SoFi management fees or commissions. You can automate your investments based on your risk and return objectives.

FAQ

What is considered a good number for historical volatility?

It depends. While one stock might have a high historical volatility reading, perhaps above 100%, another steady stock might have a low figure around 20%. The key is to understand the securities you trade. Historical volatility can be an indicator of a stock’s volatility, but unforeseen risks can turn future volatility drastically different than the historical trend.

What is a historical volatility ratio?

The historical volatility ratio is the percentage of short-to-long average historical volatility on a financial asset. You can interpret the historical volatility ratio by looking at short versus long historical volatility. If short volatility on a stock drops below a threshold percentage of its long volatility, a trader might think there will be a jump in future volatility soon.

This is similar to analyzing volatility skew in options. It is important to remember that the interpretation and technical rules of historical volatility can be subjective by traders.

How is historical volatility calculated?

Historical volatility calculations require finding the average deviation from the average price of an asset over a particular time. An asset’s standard deviation is often used. Historical volatility is usually stated as one standard deviation of historical daily returns.

Many trading platforms automatically calculate historical volatility, so you don’t have to do the calculations manually.


Photo credit: iStock/Eva-Katalin

SoFi Invest®
The information provided is not meant to provide investment or financial advice. Investment decisions should be based on an individual’s specific financial needs, goals and risk profile. SoFi can’t guarantee future financial performance. Advisory services offered through SoFi Wealth, LLC. SoFi Securities, LLC, member FINRA / SIPC . SoFi Invest refers to the three investment and trading platforms operated by Social Finance, Inc. and its affiliates (described below). Individual customer accounts may be subject to the terms applicable to one or more of the platforms below.
1) Automated Investing—The Automated Investing platform is owned by SoFi Wealth LLC, an SEC Registered Investment Advisor (“Sofi Wealth“). Brokerage services are provided to SoFi Wealth LLC by SoFi Securities LLC, an affiliated SEC registered broker dealer and member FINRA/SIPC, (“Sofi Securities).
2) Active Investing—The Active Investing platform is owned by SoFi Securities LLC. Clearing and custody of all securities are provided by APEX Clearing Corporation.
3) Cryptocurrency is offered by SoFi Digital Assets, LLC, a FinCEN registered Money Service Business.
For additional disclosures related to the SoFi Invest platforms described above, including state licensure of Sofi Digital Assets, LLC, please visit www.sofi.com/legal. Neither the Investment Advisor Representatives of SoFi Wealth, nor the Registered Representatives of SoFi Securities are compensated for the sale of any product or service sold through any SoFi Invest platform. Information related to lending products contained herein should not be construed as an offer or pre-qualification for any loan product offered by SoFi Lending Corp and/or its affiliates.
Options involve risks, including substantial risk of loss and the possibility an investor may lose the entire amount invested in a short period of time. Before an investor begins trading options they should familiarize themselves with the Characteristics and Risks of Standardized Options . Tax considerations with options transactions are unique, investors should consult with their tax advisor to understand the impact to their taxes.
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What Is a Credit Card Convenience Fee? How to Avoid It

What Is a Credit Card Convenience Fee? How to Avoid It

If you, like 80% of Americans, use credit cards, you’ve probably been hit with a convenience fee — an additional charge levied by merchants — at some point. Perhaps it was tacked on when you bought concert tickets online rather than at the box office or assessed when you paid your rent online with your plastic. Or maybe you only noticed it when reviewing your monthly bill. Whatever the case, you may well have asked yourself if this is a fair fee and how you can avoid this kind of charge in the future.

We can help! Read on to learn more about credit-card convenience fees, when and why they are charged, and whether you can avoid them.

What Is A Convenience Fee?

A convenience fee is a flat fee that’s tacked on to the cost of your transaction that you, the cardholder, are expected to pay. It is typically charged by merchants when a customer uses a credit card in a payment channel that it’s the usual one for the business. For instance, if a trade school usually accepts payments in-person and you choose to pay online, you might be assessed the additional fee for the convenience of not turning up at their place of business. A convenience fee may be either a small percentage of the transaction’s total or a flat fee charged when you use a credit or debit card with the merchant.

This fee is the result of a lawsuit between retailers and the brands (Mastercard/Visa) that was settled in January 2013. To make a long story short, the verdict permits merchants to add a surcharge when a customer uses a credit card. It helps to understand why retailers fought for this right: When merchants allow a customer to use a credit card as a payment method instead of cash or checks, they (the retailer) are charged a credit-card processing fee for the transaction. When you, the customer, receive a convenience fee, it reflects the merchant trying to offload that processing fee onto you. The convenience fee is what you pay for the “convenience” of being able to use a credit card for a transaction instead of cash or another form of payment. In some cases, a retailer will factor these fees into their business model and won’t pass along the additional charge. That is why you may notice that convenience fees strike you as somewhat random.

Example of a Convenience Fee

In general, the consumer pays a convenience fee when purchasing a product or service in an alternative way than paying in person. One example of a convenience fee is purchasing tickets for a play over the phone or online. Anyone who’s ever reserved seats for the theater knows that you often pay a lot more than the ticket price for the final purchase amount. You may be hit with a credit card convenience fee for this purchase as well as other fees! Buying a ticket in person at a ticket office for a show will often help you avoid convenience fees.

Another example of these convenience fees at work can be found at the gas station. When you fill up your tank, you may notice that the price for gas is about $0.10 cheaper per gallon if you pay with cash than with a credit card.

Why Do Convenience Fees Exist?

Many credit card holders already get hit with an annual fee and monthly interest fees; so why do you have to pay even more money for using plastic as a payment method? The main reason you’re getting stuck with these convenience fees is because the merchants have to pay processing fees to payment networks. The payment networks or payment processors work with the financial institutions that issue your cards (like SoFi), and the card network (Visa, Mastercard, Discover, American Express) to make sure the transaction is secure and processed smoothly. The bank that issues the cards often charges the merchant a fee for allowing them to accept this card – a credit card processing fee. Sometimes, payment networks also charge the merchant a fee. Often, credit-card processing fees cost the merchants between 2% and 4% per transaction. That’s why the merchant might pass those fees on to you, the consumer, as a convenience fee.

This is also another reason some small businesses may not accept credit cards at all: They don’t want to have to pay the fees associated with taking them or pass them on to you.Other merchants choose not to accept certain credit cards, like Discover or American Express, since those companies tend to collect higher fees per purchase.

Credit Card Company Rules on Convenience Fees

Here’s the breakdown for how some of the major credit-card brands handle fees.

Brand

Rules for Merchants on Convenience Fees

Visa

Merchants can add convenience fees on all nonstandard payment methods, except for income tax payments in some states.

Retailers are required to register the surcharge with the payment network. They must also display a notice of the surcharge at the point of sale — both in-store and online. You’ll usually see the additional fee on your receipt.

Mastercard

Only select government agencies and educational institutions can charge credit card convenience fees.

Retailers must register the surcharge with their payment network. They must also display a message about the surcharge at the point of sale — both in-store at the checkout and online. You’ll usually see the additional fee on your receipt as well.

American Express Only government agencies, educational institutions, utility companies, and rental companies can charge credit-card convenience fees.
Discover The retailer cannot charge convenience fees to Discover cardholders unless it charges the same fees to those using credit cards from other card issuers.

Convenience Fees vs Surcharge Fees: What’s the Difference?

When thinking about the additional charges you wind up paying, you may have wondered what the difference between convenience fees and surcharge fees are. Let’s explain.

A surcharge fee covers the cost of you having the privilege of using a credit card. It’s added before taxes. Sometimes called a “checkout fee,” it is usually a percentage of the sale and it’s optional for the merchant to add a surcharge fee onto a transaction. Each specific credit card company has rules about surcharge fees.

Credit card surcharges are prohibited by law in 10 states. If you’re a merchant doing business in Colorado, Utah, Connecticut, Florida, Kansas, Maine, Massachusetts, New York, Oklahoma, and Texas, you’re not allowed to add a surcharge to a purchase. So if you’re a customer in those states and paying with a credit card, you might be able to avoid some additional fees.

In comparison, a convenience fee covers the cost of doing a transaction with a credit card instead of another payment method. Sometimes this is charged as a percentage of the transaction. Other times, it is charged as a flat fee, regardless of the cost of the products or services purchased. A retailer might add $3 to $5 to the transaction completed with a credit card, regardless of what or how much was purchased.

How Can Convenience Fees Be Avoided?

When you’re trying to avoid credit card convenience fees, you can choose to pay with a method other than plastic, such as cash, check, or money orders at some merchants. For example, if you’re paying for college tuition, you might be able to set up an online payment using an electronic check, money order, or personal check. At some schools, this could save you nearly 3% per payment transaction. If one semester of college tuition was $5,000, avoiding a convenience fee charge could save you about $150.

That being said, if you have a high-rewards credit card, conducting an expensive transaction might be beneficial if you can get cash back.

So, it’s important to scan for notices about convenience fees. When making a purchase at a bricks and mortar location, look at the point of entry and at the checkout area to see if they have messages posted about surcharges or convenience fees. You could always ask before purchasing a product or service if paying by cash will save you money. This often works well in service businesses. If you’re paying someone to install or service an appliance in your home, for example, paying with cash could save you a chunk of money if it allows you to avoid fees. If you are purchasing something online, look carefully at the charges before hitting “purchase.” Credit card fees are fairly common today, so you want to be alert to how they can crop up – and avoid them when you can!

The Takeaway

Knowing that credit card convenience fees (and surcharge fees) exist, whether they are legal in your state, and how to avoid them can help save you money in the long run. Oftentimes, these fees are added at the merchant’s discretion, and you may — with a little sleuthing and a work-around or two — be able to avoid them. Using a credit card can be an expensive proposition, so it’s good to know how you can trim some of these additional charges. Using cash or a check can sometimes be the most economical path forward.

Get Money-Smart with SoFi Checking and Savings

Avoiding additional fees and paying you interest for the privilege of holding your money are two benefits SoFi can offer you! With our online checking and savings accounts, eligible accounts will pay no account or overdraft fees, plus you’ll earn 1.25% APY.

At SoFi, we work hard for your money!


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SoFi® Checking and Savings is offered through SoFi Bank, N.A. ©2022 SoFi Bank, N.A. All rights reserved. Member FDIC. Equal Housing Lender.
SoFi members with direct deposit can earn up to 1.25% annual percentage yield (APY) interest on all account balances in their Checking and Savings accounts (including Vaults). Members without direct deposit will earn 0.70% APY on all account balances in their Checking and Savings accounts (including Vaults). Interest rates are variable and subject to change at any time. Rate of 1.25% APY is current as of 4/5/2022. Additional information can be found at http://www.sofi.com/legal/banking-rate-sheet
Financial Tips & Strategies: The tips provided on this website are of a general nature and do not take into account your specific objectives, financial situation, and needs. You should always consider their appropriateness given your own circumstances.
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paper pie charts

What Is a Dividend?

A dividend is when a company periodically gives its shareholders a payment in cash, additional shares of stock, or property. The size of that dividend payment depends on the company’s dividend yield and how many shares you own.

Not all companies pay dividends, but many investors look to buy stock in companies that pay them as a way to generate regular income in addition to stock price appreciation. A dividend investing strategy is one way many investors look to make money from stocks and build wealth.

What Is a Dividend Payment?

A dividend payment is a portion of a company’s earnings paid out to the shareholders. For every share of stock an investor owns, they get paid an amount of the company’s profits.

The total amount an investor receives in a dividend payment is based on the number of shares they own. For example, if a stock pays a quarterly dividend of $1 per share and the investor owns 50 shares, they would receive a dividend of $50 each quarter.

Companies can pay out dividends in cash, called a cash dividend, or additional stock, known as a stock dividend.

Generally, dividend payouts happen on a fixed schedule. Most dividend-paying companies will pay out their dividends quarterly. However, some companies pay out dividends annually, semi-annually (twice a year), or monthly. Certain companies, like real estate investment trusts (REITs), are legally structured to generate a consistent income stream to shareholders, so they sometimes pay out dividends monthly.

Occasionally, companies will pay out dividends at random times, possibly due to a windfall in cash from a business unit sale. These payouts are known as special dividends or extra dividends.

A company is not required to pay out a dividend. There are no established rules for dividends; it’s entirely up to the company to decide if and when they pay them. Some companies pay dividends regularly, and others never do.

Even if companies pay dividends regularly, they are not always guaranteed. A company can skip or delay dividend payments as needed. For example, a company may withhold a dividend if they had a quarter with negative profits. However, such a move may spook the market, resulting in a drop in share price as investors sell the struggling company.

When Are Dividends Paid?

There are four critical dates investors need to keep in mind to determine when dividends are paid and see if they qualify to receive a dividend payment.

•   Declaration Date: The day when a company’s board of directors announces the next dividend payment. The company will inform investors of the date of record and the payable date on the declaration date. The company will notify shareholders of upcoming dividend payments by a press release on the declaration day.

•   Date of Record: The date of record, also known as the record date, is when a company will review its books to determine who its shareholders are and who will be entitled to a dividend payment.

•   Ex-dividend date: The ex-dividend date, typically set one business day before the record date, is an important date for investors. Before the ex-dividend date, investors who own the stock will receive the upcoming dividend payment. However, if you were to buy a stock on or after an ex-dividend date, you are not eligible to receive the future dividend payment.

•   Payable date: This is when the company pays the dividend to shareholders.

What Is a Dividend Yield?

A dividend yield is a financial ratio that shows how much a company pays out in dividends relative to its share price. The dividend yield can be a valuable indicator to compare stocks that trade for different dollar amounts and with varying dividend payments.

Here’s how to calculate the dividend yield for a stock:

Dividend Yield = Annual Dividend Per Share ÷ Price Per Share

To use the dividend yield to compare two different stocks, consider two companies that pay a similar $4 annual dividend. A stock of Company A costs $95 per share, and a stock of Company B costs $165.

Using the formula above, we can see that Company A has a higher dividend yield than Company B. Company A has a dividend yield of 4.2% ($4 annual dividend ÷ $95 per share = 4.2%). Company B has a yield of 2.4% ($4 annual dividend ÷ $165 per share = 2.4%).

If investors are looking to invest in a company with a relatively high dividend yield, they may invest in Company A.

While this formula helps compare dividend yields, there may be other factors to consider when deciding on the suitable investment. There are many reasons a company could have a high or low dividend yield, and some insight into dividend yields is necessary for further analysis.

Why Do Investors Buy Dividend Stocks?

As mentioned above, dividend payments and stock price appreciation make up a stock’s total return. But beyond being an integral part of total stock market returns, dividend-paying stocks present unique opportunities for investors in the following ways.

Passive Dividend Income

Many investors look to buy stock in companies that pay dividends to generate a regular passive dividend income. They may be doing this to replace a salary — e.g., in retirement — or supplement their current income. Investors who are following an income-producing strategy tend to favor dividend-paying stocks, government and corporate bonds, and real estate investment trusts (REITs).

Dividend Reinvestment Plans

A dividend reinvestment plan (DRIP) allows investors to reinvest the money earned from dividend payments into more shares, or fractional shares, of that stock. A DRIP can help investors take advantage of compounding returns as they benefit from a growing share price, additional shares of stock, and regular dividend payments. The periodic payments from dividend stocks can be useful when utilizing a dividend reinvestment plan.

Dividend Tax Advantages

Another reason that investors may target dividend stocks is that they may receive favorable tax treatment depending on their financial situation, how long they’ve held the stock, and what kind of account holds the stock.

There are two types of dividends for tax purposes: ordinary and qualified. Ordinary dividends are taxable as ordinary income at your regular income tax rate. However, a dividend is eligible for the lower capital gains
tax rate
if it meets specific criteria to be a qualified dividend . These criteria are as follows:

•   It must be paid by a U.S. corporation or a qualified foreign corporation.

•   The dividends are not the type listed by the IRS under dividends that are not qualified dividends.

•   You must have held the stock for more than 60 days in the 121-day period that begins 60 days before the ex-dividend date.

Investors can take advantage of the favorable tax treatments of qualified dividends when paying taxes on stocks.

Furthermore, suppose an investor owns stocks through a retirement account specifically designed for retirement planning, such as a traditional or Roth IRA. In that case, no annual taxes are assessed on dividend payments and capital appreciation, since these accounts enjoy tax-free growth. However, depending on what type of account you use, you may be taxed upon withdrawal.

The Takeaway

Dividends are a way that companies compensate shareholders just for owning the stock, usually in the form of a cash payment. Many investors look to dividend-paying stocks to take advantage of the regular income the payments provide and the stock price appreciation in total returns.

Additionally, dividend-paying companies can be seen as stable companies, while growth companies, where value comes from stock price appreciation, may be riskier. If your investment risk tolerance is low, investing in dividend-paying companies may be worthwhile.

Ready to try your hand at investing in stocks and earning dividends? You may want to consider a SoFi Invest® investment account, which offers options depending on your preferred investing style.


SoFi Invest®
The information provided is not meant to provide investment or financial advice. Investment decisions should be based on an individual’s specific financial needs, goals and risk profile. SoFi can’t guarantee future financial performance. Advisory services offered through SoFi Wealth, LLC. SoFi Securities, LLC, member FINRA / SIPC . SoFi Invest refers to the three investment and trading platforms operated by Social Finance, Inc. and its affiliates (described below). Individual customer accounts may be subject to the terms applicable to one or more of the platforms below.
1) Automated Investing—The Automated Investing platform is owned by SoFi Wealth LLC, an SEC Registered Investment Advisor (“Sofi Wealth“). Brokerage services are provided to SoFi Wealth LLC by SoFi Securities LLC, an affiliated SEC registered broker dealer and member FINRA/SIPC, (“Sofi Securities).
2) Active Investing—The Active Investing platform is owned by SoFi Securities LLC. Clearing and custody of all securities are provided by APEX Clearing Corporation.
3) Cryptocurrency is offered by SoFi Digital Assets, LLC, a FinCEN registered Money Service Business.
For additional disclosures related to the SoFi Invest platforms described above, including state licensure of Sofi Digital Assets, LLC, please visit www.sofi.com/legal. Neither the Investment Advisor Representatives of SoFi Wealth, nor the Registered Representatives of SoFi Securities are compensated for the sale of any product or service sold through any SoFi Invest platform. Information related to lending products contained herein should not be construed as an offer or pre-qualification for any loan product offered by SoFi Lending Corp and/or its affiliates.
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What Is an Installment Loan and How Does It Work?

What Is an Installment Loan and How Does It Work?

There are two basic types of credit: installment and revolving. An installment loan is a form of installment credit that is closed-ended and is repaid in fixed payments over a regular repayment schedule.

Some common types of installment loans are mortgages, auto loans, student loans, and personal loans. If you’re considering borrowing money, you may be wondering what an installment loan is and how it works. We’ll provide some insight that may help.

What Is an Installment Loan?

An installment loan is a lump sum of money borrowed and paid back over time. Each payment is referred to as an installment, hence the term installment loan.

In contrast, revolving credit like credit cards can be borrowed, repaid, and borrowed again up to the approved credit limit.

Installment loans can be secured with collateral or they can be unsecured. Some loans may have fees and penalties. The interest rate may fluctuate, depending on whether you choose a fixed or variable rate loan.

Recommended: A Guide to Unsecured Loans

What Is an Example of an Installment Loan?

Installment loans can have multiple uses. These include auto loans, personal loans, mortgages, and student loans.

Auto Loans

Borrowers can take out auto loans for new and used vehicles. Monthly installments average around 72 months, but shorter loans may be available.

Loans with longer terms tend to have higher interest rates. It may seem like you’re paying less because the monthly payments may be lower, but you could end up paying more over the life of the loan.

Mortgages

Mortgages, or home loans, typically have terms ranging from 10 to 30 years with installments paid back monthly. Depending on your mortgage, you’ll either pay a fixed interest rate — it won’t change throughout your loan — or variable, which can fluctuate after a certain period of time.

Personal Loans

Personal loans are more flexible types of loans in that borrowers can use them for most purposes — examples include home repairs or debt consolidation. Many personal loans are unsecured, and interest rates will depend on your credit history and other factors.

Recommended: 11 Types of Personal Loans & Their Differences

Student Loans

Student loans help borrowers pay for their post-secondary education such as undergraduate and graduate tuition costs. They’re either federal or private, and terms and rates will depend on a variety of factors.

Some student loans have a grace period, a period after graduation during which you aren’t required to make payments, and, depending on how the loan is structured, interest may not accrue. Not all student loans have a grace period, however, so it’s important to verify your repayment schedule before you finalize the loan.

Pros and Cons of Installment Loans

An installment loan may or may not be the best fit for your borrowing needs. Consider the advantages and disadvantages, so you understand what you’re agreeing to.

Pros of Installment Loans

Cons of Installment Loans

Can cover small or large expenses Interest charges on entire loan amount
Predictable payments Can’t add to loan amount once it’s been finalized
Can refinance to lower rate Can come with long repayment terms

Pros of Installment Loans

Expense

Most installment loans allow borrowers to take out large amounts, helping them to cover large expenses. For instance, many borrowers can’t afford to buy a house with cash, so mortgages can provide a path to homeownership.

Regular Repayments

Installment loans tend to come with predictable payment schedules. If you take out a fixed-rate loan, your payment amount should be the same each month. Having that knowledge of when and how much you need to pay can make it easier to budget.

Plus, installment loans have a payment end date. As long as you keep making on-time payments, your loan will be paid off in a certain amount of time.

Taking a careful look at your budget to make sure you can afford the monthly payments is an important consideration.

Refinancing

You may be able to refinance your loan to a lower rate if you’ve improved your credit or if interest rates go down. Refinancing may shorten your loan repayment schedule or lower your monthly payments.

There are typically fees associated with refinancing a loan, which is another thing to consider when thinking about this option.

Recommended: Can You Refinance a Personal Loan?

Cons of an Installment Loan

Not Open-ended

Once you finalize the loan and receive the proceeds, you can’t borrow more money without taking out another loan. Revolving credit like credit cards allow borrowers to use funds continually — borrowing and repaying up to their credit limit.

Commitment

When you take out a loan, being committed to paying it down is essential. Since some installment loans can come with longer terms — think mortgages — it’s important to make sure your budget can handle the regular payment.

Charged Interest

Like other types of loans, you’ll need to pay interest on installment loans. The interest rate you’re approved for is dependent on factors such as your credit history, credit score, and others. Applicants who have a deep credit history and a credit score at the higher end of the range will most likely qualify for the most competitive rates. If you’re stuck with a higher rate because of your less-than-stellar credit, you could be making larger payments and paying more in interest.

Aside from interest, you may have to pay fees to take out an installment loan. There may also be prepayment penalties if you want to pay off your loan early.

Recommended: How to Build Credit Over Time

Installment Loans and Credit Scores

How you use an installment loan can affect your credit score. If a lender reports your activity related to the loan, it could affect your score in two ways:

•   Applying for a loan: A lender may want to check your credit report when you apply for a loan, which may trigger a hard credit inquiry. Doing so could temporarily lower your credit score.

•   Paying back a loan: Lenders generally report your activity to the three major credit bureaus. If you make regular, on-time payments, this positive mark on your credit report could raise your credit score. The opposite can happen if you’re behind on or miss payments.

Getting an Installment Loan

Since taking out an installment loan is a big financial commitment, you may want to consider the following best practices:

•   Shopping around: Getting quotes from multiple lenders is a good way to compare personal loans to find one that offers the best rates and terms for your financial profile.

•   Pre-qualifying for loans: Getting pre-qualified allows you to see what rates and terms you may qualify for without it affecting your credit score.*

•   Enhancing your borrowing profile: Check your credit report for any errors or discrepancies. Making corrections could have a positive effect on your credit score.

•   Adding a cosigner: If you can’t qualify for an installment loan on the merits of your own credit, you may consider asking someone you trust and who has good credit to be a cosigner.

Alternatives to Installment Loans

Here are a few alternatives to consider:

•   Using a credit card: If you don’t need a large sum of money or don’t know how much you’ll need to borrow, a credit card can be a smart choice. Paying the entire balance by the due date means you won’t have to pay interest. Paying at least the minimum amount due each month will keep you from incurring a late fee, but you’ll still pay interest on any outstanding balance.

•   Borrowing from your next paycheck: Some apps let you receive an advance on your next paycheck, if you meet qualifications. You agree to pay the advance back when your next paycheck is deposited into your bank account.

•   Borrowing from friends or family: Asking to borrow money can be an uncomfortable conversation to have. However, it may be an option if you can’t qualify for or would rather not take out a bank loan. Having a written agreement outlining each party’s expectations and responsibilities is a good way to minimize miscommunication and hurt feelings.

Recommended: Family Loans: Guide to Borrowing & Lending Money to Family

The Takeaway

If you’re looking for a loan, an installment loan might fit your needs. Shopping around for an installment loan is a good way to find the best rates and terms for your unique financial situation and needs.

SoFi Personal Loans are installment loans with competitive, fixed rates and terms that can fit a variety of budgets. SoFi never charges a fee on its personal loans, so you’ll only have to repay the principal and interest.

Looking for a loan? See if a SoFi Personal Loan will work for you.

FAQ

What is an installment loan and how does it work?

An installment loan is a type of loan where borrowers take out a lump sum of money and pay it back in installments. Loan amounts can range from hundreds to thousands of dollars, and terms range from a few months to a few years.

What is an example of an installment loan?

Examples of installment loans include auto loans, personal loans, mortgages, and student loans.


Photo credit: iStock/Ridofranz

*Checking Your Rates: To check the rates and terms you may qualify for, SoFi conducts a soft credit pull that will not affect your credit score. However, if you choose a product and continue your application, we will request your full credit report from one or more consumer reporting agencies, which is considered a hard credit pull and may affect your credit.
SoFi Loan Products
SoFi loans are originated by SoFi Bank, N.A., NMLS #696891 (Member FDIC), and by SoFi Lending Corp. NMLS #1121636 , a lender licensed by the Department of Financial Protection and Innovation under the California Financing Law (License # 6054612) and by other states. For additional product-specific legal and licensing information, see SoFi.com/legal.

Disclaimer: Many factors affect your credit scores and the interest rates you may receive. SoFi is not a Credit Repair Organization as defined under federal or state law, including the Credit Repair Organizations Act. SoFi does not provide “credit repair” services or advice or assistance regarding “rebuilding” or “improving” your credit record, credit history, or credit rating. For details, see the FTC’s
website
.

SoFi Mortgages
Terms, conditions, and state restrictions apply. Not all products are available in all states. See SoFi.com/eligibility for more information.

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What Is a Guarantor Loan and How Do I Get One?

What Is a Guarantor Loan and How Do I Get One?

Maybe you’ve already tried to apply for a regular, unsecured personal loan — only to be turned down.

If so, a guarantor loan might be an option worth looking into. Secured by the promise, or guarantee, of a close friend or family member, guarantor loans make it more possible for those with little or poor credit history to qualify for unsecured personal loans. They do, of course, have their own downsides to consider, so read on to learn everything you need to know about this type of personal loan.

What Is a Loan With a Guarantor

A guarantor loan is a lot like a regular personal loan. The borrower gets a lump sum of money they can use for a variety of purposes, and they must repay the loan at regular monthly intervals over a term of months or years.

However, a guarantor loan comes with the security of a guarantor, a friend or family member who pledges to pay back the loan if the primary borrower goes into default. This makes guarantor loans more accessible for those with a limited or poor credit history.

How Do Guarantor Loans Work?

Like applying for other personal loans, when you apply for a guarantor loan your financial information will be assessed — but so will the guarantors. This adds strength to your loan application and can make it possible for borrowers that might not otherwise qualify to receive the loans they are seeking for major expenses and purchases.

Like other installment loans, once the application is approved, the money will be issued to the borrower as a check or direct deposit, and regular monthly repayments, including interest (which may be higher than that on other types of personal loans), will begin. If the primary borrower fails to repay the loan, the lender will then look to the guarantor, who would be legally obligated to make payments.

Are You Guaranteed to Get a Loan With a Guarantor?

Although it can certainly help your case, there’s no guarantee that you’ll be qualified to take out a loan with a guarantor. Approval depends on the financial profiles of you and your guarantor and the eligibility requirements of the bank.

Who Can Be a Guarantor for Loans?

A guarantor doesn’t need to be anyone specific, although usually a close friend or relative is chosen.

Additionally, a guarantor should have a solid credit history and steady income in order to help the primary borrower qualify for the loan. Each lender will have its own eligibility requirements, so be sure to check the fine print and ensure the person you have in mind is eligible before you apply.

What Should I Look For in a Guarantor Loan?

Like any other loan, it’s generally a good idea to look for a guarantor loan with the lowest interest rates and fees, as well as one that offers loan amounts large enough to cover your financial needs.

As mentioned above, guarantor loans tend to have higher interest rates than other loans, so it’s worth shopping around to ensure you get the lowest possible APR — doing so could save you a lot of money over time.

How Much Can I Borrow for a Guarantor Loan?

Guarantor loans vary in loan amount depending on which lender you choose as well as the financial details of both you and your guarantor. There are many different ways to use personal loans, so once you know how much money you need, you’ll have to shop around to find a loan that will fit your financial needs.

Guarantor Loan Requirements

Guarantor loans have eligibility requirements such as minimum credit scores and income thresholds that the guarantor will have to meet in order to qualify.

Credit Score

While the borrower’s credit score might be poor or fair, the guarantor’s credit score should be considerably higher in order to secure the loan.

Recommended: How to Build Credit Over Time

Residence

Both the borrower and guarantor will need to reside in the country in which the financial institution is based.

Guarantor

It’s a good idea to ask a trusted friend or family member to be a guarantor. This is a person who will be familiar with your financial details, so trust and communication is important. Someone who agrees to be your guarantor is taking on some financial risk to help you, so they will want to be confident that you’ll uphold your part of the agreement.

Income

The guarantor will need to verify a consistent income that’s sufficient to make payments on the loan if the primary borrower cannot. The particular level of income will likely vary depending on the amount of the loan being applied for.

Age

Both guarantor and borrower will likely need to be at or above the age of majority in their home country, generally 18 or 21.

Types of Guarantors

Guarantors aren’t just for personal loans, and they don’t always take on the full financial responsibility of the agreement they’re entering into. Here are some other ways guarantors can be helpful.

Guarantors as Certifiers

A guarantor may act as a certifier for someone looking to land a job or get a passport. These guarantors pledge that they know the applicant and they’re who they say they are.

Limited vs Unlimited

Acting as a guarantor doesn’t always mean you’re responsible for the entire loan if the primary borrower fails to repay it. Limited guarantors are liable for only part of the loan or part of the loan’s timeline. Unlimited guarantors, however, are responsible for the full amount and full term of the loan.

Guarantors vs Co-Signers

You may have heard of personal loans with coborrowers or cosigners — is a guarantor the same thing?

Not quite. A cosigner shares the full financial obligation of the loan and ownership of the loaned money or asset from the very start. A guarantor, however, is obligated to repay the loan only if the primary borrower defaults and has no ownership in the loan proceeds or what they purchased.

Both co-borrowers and guarantors can strengthen a loan application that may otherwise have been denied.

Recommended: Guarantor vs Cosigner

Pros and Cons of Guarantor Loans

There are lots of things to consider when comparing loans in general. But when you can’t qualify based on your own creditworthiness and are depending on someone else to help you qualify, you may want to look at all of the benefits and drawbacks before deciding if this is the right choice for you.

Pros of Guarantor Loans

Cons of Guarantor Loans

Can help borrowers who otherwise wouldn’t be able to qualify get a loan. Typically considerably more expensive than other types of personal loans, since the lender has more risk.
Are increasingly available from a wider variety of lenders. The guarantor will be responsible to repay the loan if the borrower defaults, even if their financial circumstances change — and if they fail to do so, their credit history will be affected.
May not have interest rates as high as payday loans and other predatory financial products and services. Asking someone to be a guarantor on a loan for you can be difficult, and if you do default on the loan, it can be stressful to know it will affect their finances.

What Happens if a Guarantor Cannot Pay?

Since a guarantor is legally obligated to repay the loan if the primary borrower defaults if they fail to do so, the loan will go into collections. This process will have ramifications on the credit of the borrower and guarantor alike.

Alternative Options to a Guarantor Loan

What if you don’t have a trusted person to ask to be your guarantor or you don’t want to ask anyone to take on this responsibility? Here are some alternatives to a guarantor loan that you could consider.

•   Secured credit card. If you have some cash, you could pledge that as collateral on a secured credit card. Responsible use of this type of credit card could help you build your credit history so you can improve your chances of future loan approval. Interest rates on secured credit cards can be higher than regular credit cards, and there may be fees associated with their use.

•   Flex loan. A line of credit that is similar to a credit card, a flex loan can also be used to build credit. Borrowers can use funds up to their credit limit, repay those funds, and borrow them again. Interest rates on flex loans tend to be high, and there may be fees assessed daily or monthly — or even each time the loan is used.

•   Loan from a friend or family member. Perhaps the person you ask to be a guarantor doesn’t want to take on that responsibility, but they are willing to directly loan you the money. A loan from family or a friend can be an option to consider, but it can be difficult on relationships. Having a written agreement outlining the expectations and responsibilities of both parties will go a long way to minimizing miscommunication and hurt feelings. Keep in mind that this is not an option that will help you build your credit history.

The Takeaway

Getting approved for an unsecured loan is more likely if you have a solid credit history, an above-average credit score, and sufficient income to satisfy a lender’s qualification requirements. If you’re lacking one or more of these things, you might be considering other types of loans, which may include a guarantor loan.

SoFi Personal Loans have competitive, fixed interest rates and no origination, prepayment, or late fees. They can be used to consolidate debt, pay medical expenses, or for a variety of other financial needs. Checking your rate takes just one minute and won’t affect your credit score.*

Learn more about personal loans from SoFi

FAQ

What are guarantor loans?

A guarantor loan is a type of personal loan for which two people are responsible for repayment: the primary borrower and, if that person defaults on the loan, the guarantor.

How do I get a guarantor for a loan?

You might consider asking a trusted friend or family member to be a guarantor. This person should be someone who has solid credit and sufficient income to cover the loan payments if you default on the loan.

Are you guaranteed to get a loan with a guarantor?

No. Having a guarantor may strengthen a loan application, but it’s up to each individual lender to assess the qualifications of both parties.


Photo credit: iStock/fizkes

*Checking Your Rates: To check the rates and terms you may qualify for, SoFi conducts a soft credit pull that will not affect your credit score. However, if you choose a product and continue your application, we will request your full credit report from one or more consumer reporting agencies, which is considered a hard credit pull and may affect your credit.
SoFi Loan Products
SoFi loans are originated by SoFi Bank, N.A., NMLS #696891 (Member FDIC), and by SoFi Lending Corp. NMLS #1121636 , a lender licensed by the Department of Financial Protection and Innovation under the California Financing Law (License # 6054612) and by other states. For additional product-specific legal and licensing information, see SoFi.com/legal.

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