What banks look at before they say yes

Banks decide whether to lend you money by looking at five things: your credit score, your income, how much debt you already carry, what you own, and why you need the money. They do not make the decision based on a single number or a gut feeling. Each bank has its own rules about how much weight each factor gets, but all of them are trying to answer the same question: will you pay this back on time?

Your credit score is a number between 300 and 850 that summarizes your history of borrowing and repaying. It comes from three credit bureaus — Equifax, Experian, and TransUnion — and reflects whether you paid past bills on time, how much credit you are currently using, and how long you have had credit accounts open. Most banks want to see a score of at least 620 for a personal loan, though some require 680 or higher. Auto loans often have lower minimums because the car itself is collateral.

Your income tells the bank whether you have money coming in to make monthly payments. Banks usually want to see that your monthly loan payment will not exceed 40 to 50 percent of your gross monthly income, though this varies by lender and loan type. You will need to prove your income with recent pay stubs, tax returns, or bank statements showing regular deposits.

Your debt-to-income ratio is the total of all your monthly debt payments divided by your gross monthly income. If you earn $4,000 a month and already owe $1,200 in car payments, credit card minimums, and student loan payments, your ratio is 30 percent. Most banks want this to stay below 43 percent, though some will go higher if your credit score is strong.

Key Takeaways

  • Banks pull your credit report from one or more of the three major bureaus and use your credit score as a starting point, but they also look at your income and existing debt.
  • You will need to provide recent pay stubs, tax returns, or bank statements to prove your income, and banks will calculate whether your new payment fits within their debt-to-income limits.
  • Collateral — a car, house, or savings account — makes a loan easier to get because the bank can seize it if you do not pay, so secured loans have lower rates than unsecured ones.
  • The type of loan you want matters: auto loans are easier to get than personal loans because the car is collateral, and business loans require different paperwork than personal ones.
  • If your credit score is low or your debt is high, you can still get a loan, but you will pay a higher interest rate or need a co-signer or collateral.

The difference between secured and unsecured loans

A secured loan is backed by something you own — a car, a house, savings, or another asset. If you do not pay, the bank takes that asset. Because the bank has collateral, it will lend to people with lower credit scores and charge lower interest rates. An auto loan is secured by the car itself. A home equity loan is secured by your house. A secured personal loan might be backed by a savings account or certificate of deposit.

An unsecured loan has no collateral. The bank is lending you money based only on your promise to repay and your credit history. Personal loans, credit cards, and student loans are unsecured. Because the bank has nothing to seize if you do not pay, it charges higher interest rates and is more selective about who it lends to. You will typically need a credit score of at least 620 to 680 for an unsecured personal loan, depending on the lender.

If your credit score is below 620 or your debt is already high, a secured loan may be your only option. Some banks offer secured personal loans where you deposit money into a savings account that the bank holds as collateral — you borrow against your own money, which sounds odd, but it builds your credit history and gets you access to credit when you otherwise would not may have access to.

What you need to bring to the bank

Before you walk in or apply online, gather these documents. Banks vary in exactly what they want, but this list covers what most will ask for.

For income verification, bring your most recent two pay stubs (or the last three months if you are self-employed), your last two years of tax returns, and recent bank statements showing regular deposits. If you receive income from Social Security, disability, or unemployment, bring the award letter or bank statements showing those deposits. If you are retired, bring statements from your retirement accounts.

For identity and residency, bring a government-issued photo ID (driver's license or passport) and proof of your current address (a utility bill, lease, or mortgage statement dated within the last 60 days).

For credit and debt information, the bank will pull your credit report itself, but you should know your credit score beforehand. You can get it free once a year from each bureau at annualcreditreport.com, or from your bank or credit card company. Bring a list of all your current debts — credit cards, car loans, student loans, medical debt, anything you owe money on — with the balance and monthly payment for each.

For collateral, if you are applying for a secured loan, bring proof of what you own. For a car loan, the bank will inspect the vehicle and run a title search. For a home equity loan, the bank will order an appraisal. For a secured personal loan backed by savings, bring your savings account statement.

How long the process takes

The timeline depends on the type of loan and whether you apply in person or online. Most banks can give you a decision within one to three business days for a personal loan, though some take up to a week. Auto loans often move faster — sometimes same-day — because the bank already knows the value of the collateral. Mortgage loans take the longest, usually 30 to 45 days, because the bank orders an appraisal and title search.

The bank's first step is a soft pull of your credit, which takes minutes and does not affect your score. If you pass that, they move to a hard pull, which does show up on your credit report. The hard pull can lower your score by a few points, but multiple hard pulls from different banks within 14 days count as a single inquiry, so you can shop around without penalty.

Once the bank has your documents, it verifies your income and employment (usually by calling your employer or checking your bank deposits), runs a background check, and calculates your debt-to-income ratio. If everything checks out, you get a conditional approval, meaning the bank will lend you the money if you sign the final paperwork and meet any remaining conditions — like providing proof of homeowners insurance for a mortgage, or a bill of sale for a car.

The final step is closing, when you sign the loan agreement and promissory note. For a personal loan, this can happen online or in person and takes a few hours. For a mortgage or auto loan, closing involves more paperwork and usually takes a full day.

What to do if the bank says no

If a bank denies your loan, it must tell you why. Common reasons are a credit score that is too low, income that is too low relative to the loan amount, a debt-to-income ratio that is too high, or negative items on your credit report like late payments or collections accounts.

Ask the bank which factor was the deciding one. If it is your credit score, you can work on improving it before applying elsewhere — paying down credit card balances, making all payments on time for several months, and disputing any errors on your credit report can raise your score by 50 to 100 points over time. If it is your income or debt-to-income ratio, you have fewer options in the short term, but you can apply for a smaller loan amount or wait until you have paid down existing debt.

If you have been denied, consider these alternatives. A co-signer — someone with better credit who agrees to repay the loan if you do not — can help you get approved at a better rate. A credit union often has looser lending standards than banks and may work with you if your credit is damaged. A secured loan backed by collateral is easier to get than an unsecured one. Some banks offer credit-builder loans specifically designed for people rebuilding credit — you borrow a small amount that the bank holds in a savings account, and as you repay it, your credit score improves.

How interest rates are set

Your interest rate depends on the type of loan, the current market rate, and your personal risk profile. Banks set a base rate based on the Federal Reserve's current rates and market conditions, then adjust it up or down based on your credit score, income, debt, and collateral.

A person with a 750 credit score might get a personal loan at 8 percent, while someone with a 620 score gets the same loan at 18 percent. The difference is that the bank sees the lower-score borrower as more likely to default, so it charges more to compensate. An auto loan is usually cheaper than a personal loan because the car is collateral. A mortgage is cheaper still because a house is valuable collateral and the loan is spread over 15 or 30 years.

You can shop around and compare rates from multiple banks without hurting your credit score, as long as you do it within 14 days. Each bank will give you a rate quote based on a soft pull, which does not affect your score. Once you choose a bank and they do a hard pull, your score may drop a few points, but it will recover within a few months if you make your payments on time.

Different types of bank loans explained

Personal loans are unsecured and range from $1,000 to $50,000 or more, with repayment terms of two to seven years. Interest rates vary widely based on credit score. You can use the money for almost anything — debt consolidation, home repairs, medical bills, a vacation. Banks approve or deny them based on credit score, income, and debt-to-income ratio.

Auto loans are secured by the car you are buying. Banks will lend up to 100 percent of the car's value (sometimes more), with terms of three to seven years. Interest rates are lower than personal loans because the car is collateral. You need proof of income and a valid driver's license, and the bank will inspect the vehicle and run a title search.

Home equity loans let you borrow against the value of your house. If your house is worth $300,000 and you owe $200,000 on your mortgage, you have $100,000 in equity. A bank will typically lend you up to 80 percent of that equity. Interest rates are lower than personal loans because your house is collateral, and interest may be tax-deductible. The bank will order an appraisal and a title search.

Business loans are for business owners and require different paperwork than personal loans — business tax returns, profit-and-loss statements, a business plan, and sometimes personal tax returns as well. Banks are more selective about business loans because businesses fail more often than individuals default. You may need collateral or a personal may provide (meaning you are personally liable if the business does not repay).

Frequently Asked Questions

What credit score do I need to get a bank loan?

Most banks want a credit score of at least 620 for a personal loan, though some require 680 or higher. Auto loans often have lower minimums because the car is collateral. If your score is below 620, you can still get a loan, but you will pay a higher interest rate or need a co-signer or collateral.

Can I get a loan if I am self-employed?

Yes, but banks will ask for more documentation. Bring your last two years of personal tax returns and your last two years of business tax returns or profit-and-loss statements. Some banks want to see that your income is stable or growing. If your business is new (less than two years old), some banks will not lend to you, but others will if you have strong personal credit and collateral.

What happens if I miss a payment?

Your loan agreement spells out the consequences, but typically a missed payment shows up on your credit report after 30 days and damages your credit score. The bank may charge a late fee. If you miss multiple payments, the bank can declare the loan in default and demand full repayment immediately. For a secured loan, the bank can seize the collateral.

Can I pay off a loan early without a penalty?

Most personal loans have no prepayment penalty, so you can pay them off early without extra charges. Some auto loans and mortgages do have prepayment penalties, so check your loan agreement. Paying off early saves you interest and improves your credit score by lowering your debt.

How much can I borrow?

Banks limit loan amounts based on your income and debt-to-income ratio. A typical rule is that your monthly loan payment should not exceed 40 to 50 percent of your gross monthly income. If you earn $4,000 a month, a bank might lend you enough to make a $1,600 monthly payment. The exact amount depends on the lender and the type of loan.