Personal loans are often income-based loans, meaning that a borrower’s income is an important factor in determining both application approval and loan terms.
In contrast to secured loans like mortgages or auto loans, personal loans typically don’t require collateral. Thus, a borrower’s level of income is a critical factor in determining whether lenders will ultimately be paid back.
While nearly all personal loans incorporate income as a component of the application process, lenders may vary in their minimum income requirements; one lender may require a minimum annual income of at least $25,000 while another may state a minimum annual income of $35,000.
Meeting the minimum income requirement for a loan helps your application move forward, but it doesn’t necessarily mean guaranteed approval.
Moreover, don’t be surprised if you’re unable to find minimum income information from your preferred lender, as some lenders choose not to share their income requirements. Such lenders may not have an explicit cutoff, or may simply not want to publicize that element of their application process.
Overall, your level of income is a key factor in your personal loan application, though lenders may not calculate income the same way.
What counts as income?
In common use, “income” generally means money earned through employment. But for personal loan application purposes, what counts as income can be more expansive.
While specifics vary by lender, the following non-employment earnings are commonly accepted as sources of income:
- Social Security or Disability payments.
- Alimony or child support.
- Investment earnings, including from retirement accounts – although unrealized gains are rarely accepted as income, and irregular investment earnings may not qualify.
On the other hand, there are common sources of money you usually can’t categorize as income on a loan application:
- Unemployment benefits, which typically only last for a limited time.
- Non-cash public assistance, like a housing or food voucher.
- Any funds resulting from taking out other loans.
Additionally, while many lenders require income for a personal loan application to be individually earned, other lenders have different criteria. For instance, some lenders may allow you to factor in household income.
When adding up all your sources of income for a loan application, it’s important to remember that exceeding the minimum income requirement is just one piece of the puzzle. In fact, the higher the income you can demonstrate, the better loan terms you’re likely to receive.
How income affects your loan terms
In the eyes of a lender, a high-income borrower is generally seen as less risky than a low-income one. Since the high-income borrower has more cash coming in, they’re more likely to be able to make the required loan payments. In line with this reduced risk, lenders are often able to offer high-income borrowers better terms.
Some advantages of demonstrating a higher income on a loan application can include:
- Access to higher maximum loan amounts, increasing the total figure you can borrow.
- Lower interest rates, reducing the total cost of the loan.
- More flexible financing options, including longer timelines or alternative repayment schedules.
While income is a key individual factor on personal loan applications, it’s also a component of another way lenders judge the riskiness of borrowers: the debt-to-income (DTI) ratio.
Simply put, the DTI ratio weighs your earnings against your debts. The idea behind this metric is that someone with a high income may not necessarily be a better credit risk if they already owe significant amounts to other lenders.
As your income grows, your DTI ratio will go down if your overall debt level stays the same. As such, this is another manner in which a higher income can benefit your loan application, demonstrating reduced risk and an increased capacity to handle future debt payments.
Given all the benefits of claiming to earn a high income on a loan application, lenders can’t just take borrowers at their word. To complete an application and qualify for a loan, you’ll also need to provide documentation to prove the income you’re claiming.
Providing verification for income-based loans
If you’re just using traditional employment income on your personal loan application, the verification process is fairly simple. You’ll likely need to provide a tax form like a W-2 or 1099, depending on the work you do.
In addition, some lenders may request the most recent pay stub and in certain cases, you may also need to provide your employer’s contact information in case the lender wants to verify your continued employment.
For self-employed individuals, business owners, and freelancers, the process can be a bit more complicated. Lenders may require you to furnish bank statements demonstrating the income you’re claiming, or even a full copy of your tax return. Those with investment or retirement income will need to provide similar documentation.
Since personal loans are typically unsecured, income verification is often a key part of the application process. With that said, there are certain no-income personal loans that either don’t ask for income information or verification.
Borrowers should be cautious of these loans, as they are often subject to high rates and fees. In fact, if you can’t qualify for a personal loan based on income, there are several other paths you can pursue aside from a no-income loan.
What if I don’t qualify for a personal loan based on income?
Having your loan application rejected can be frustrating, especially if you were planning on using the funds for an important purpose. But here’s the good news: Under the Equal Opportunity Credit Act, the lender must outline the reason why you were rejected, allowing you the opportunity to work on any deficiencies in your application.
If you were rejected for a personal loan due to insufficient income, there are a few steps you can take to address the issue before your next application:
- Increase your income. Asking for a raise at work, taking on a part-time job, or launching a side hustle are options that might be able to increase your income in the near term.
- Apply with a co-signer. Also known as a co-applicant or co-borrower, this is an individual who agrees to be responsible for the loan if you can’t make payments. If they earn a higher income than you, it can help get your application approved.
- Try a different lender. As we discussed, not all lenders have the same income criteria. Look for lenders that either have lower income requirements or those that factor in a more diverse array of components in loan applications.
Even if your income was high enough for approval, it’s still possible to get rejected for having an excessive DTI (debt-to-income) ratio. If that’s the case, all three tips above can still help – but you may want to prioritize paying down existing debts first, which will help lenders be more confident that you can effectively service future debts.
Finally, if accessing a personal loan remains a challenge due to your income, you might have an easier route pursuing asset-based financing instead. Secured loans, for example, are issued based on providing collateral, like a home or a vehicle.
Due to the valuable collateral underlying the loan, a borrower’s income is often less important in secured loans. Bear in mind, though, that defaulting to make payments on a secured loan can lead to the collateral being seized by the lender, which isn’t a risk with traditional unsecured personal loans.
