Being self-employed looks different for different people. There’s the hustle, the entrepreneurial leap, the layoff rebound, the career makeover and more. No matter why you’re self-employed – or what that even looks like for you – you’re probably working hard to juggle multiple responsibilities.
But, even when things couldn’t be better financially, dips in income do happen. And when they happen, a personal loan could help cover everyday costs or unexpected expenses.
Unlike a business loan, which can only be used to pay business expenses, a personal loan is available to all kinds of self-employed people (freelancers, contract workers or small business owners), and the loans can be used for anything you need money for.
Let’s take a look at how you can get a personal loan when you’re self-employed, what types of loans you should explore and how they can help.
Understanding the Process of Getting a Loan When You’re Self-Employed
Getting a personal loan when you’re self-employed looks a lot like getting a personal loan with a full-time, salaried job.
You can get a personal loan from most banks, credit unions and online lenders. The total amount of the loan is usually deposited into your account within a few days.
Here are the steps to getting a personal loan:
- Shop lenders (compare interest rates and repayment terms)
- Apply for a loan with a lender
- Provide the required information and paperwork on your finances and employment
- Get approved for the loan (knock on wood!)
- Give the lender your checking account number for the loan deposit
- Select the date you’ll start making monthly payments (if you have that option)
- Make your monthly payments on time and in full
Lenders will usually look at these key factors when offering a personal loan to a self-employed borrower (in descending order of importance):
- Income
- Debt-to-income (DTI) ratio (monthly debt divided by monthly gross income)
- Credit score and payment history
- Employment history
Income: The Lender’s Perspective
Self-employed applicants should expect to show lenders additional proof of income.
Lenders prefer to work with borrowers who can demonstrate a steady income stream. Even if you’re confident that you’ll be able to pay your monthly loan bill, many lenders might view your application as a bigger risk for default than an applicant with a predictable income.
Now, it’s okay if your income isn’t the same amount every month. Lenders understand that being self-employed is its own animal. But they will want to see that your self-employed income has been on a steady or upward trajectory for some time.
Lenders calculate a self-employed person’s annual income as their overall earnings minus any amounts claimed as business expenses on their tax return.
Income: What You Can Do
No matter how good your credit is, you’ll have to prove to lenders that they’ll get back the money you want them to lend you.
Here are some steps that can help shore up a lender’s confidence in your ability to repay the loan:
Provide proof of income
If you’ve been self-employed for at least 2 years, submit two recent tax returns with your personal loan application.
If you’ve been self-employed for less time than that, you’ll have to submit documentation of all the income you’ve earned since you started working for yourself. This could include copies of:
- Checks from clients (from at least the last 2 months)
- A tax return (if you’ve filed one)
- Recent bank statements (showing checking deposits and savings balance)
- Business profit and loss statements
- Court-ordered alimony or child support you’re receiving
Show that debt isn’t an issue
No matter how much self-employed income history you can provide, it helps to have a low DTI. A DTI of 36% or less increases your odds of being approved. You can qualify with a higher DTI, but it may cost you more in interest.
Get someone to co-sign the loan
If you’re having trouble getting over the required income hump, consider recruiting a co-signer with a good credit score and steady income. The co-signer will apply for the loan with you. They should understand that by co-signing the loan they’re agreeing to pay the loan back if you can’t.
Including a co-signer can help your chances of getting your loan application approved. Even if your income meets the lender’s requirement, they might give you a lower interest rate with a co-signer.
Credit Score and Payment History: The Lender’s Perspective
In general, good-to-excellent credit can help you get approved for a personal loan when you’re self-employed, but your credit score isn’t as important to lenders as your income.
However, your credit score does play a huge role in helping lenders decide how big of a loan and how low (or high) of an interest rate to give you.
Lenders will likely take a closer look at your debt repayment history than they would if you had a full-time job. Your history of repaying debts lets lenders know if you’ve been able to keep up with credit card bills or other debt payments (including other loans) – especially during the time you’ve been self-employed.
They’ll consider the following info on your credit report:
- Types of accounts
- Age of each account
- Each account’s borrow limit (aka credit limit)
- Your payment history
- Account status for each debt
- Your debt types (think: car loan, mortgage, student loans, etc. – lenders like debt diversity)
Credit and Payment History: What You Can Do
What you really want to have is a history of paying your bills on time. If you can afford it, it wouldn’t hurt to pay more than the minimums you’re required to pay each month.
Pro tip: Don’t close any credit accounts you’ve paid off.
The more accounts you have open with credit you’re not using, the lower your credit utilization ratio will be. Your credit utilization ratio is the amount of credit you’ve used compared to your total available credit.
Lenders take a low ratio as a signal that you’re responsible with your debt and you manage your money well. Now, while we recommend maintaining old accounts instead of closing them, you should avoid opening too many accounts at the same time.
If you’re having trouble getting approved for a personal loan because of your credit score, don’t give up. There are a variety of ways to boost it.
Professional History: The Lender’s Perspective
Lenders typically check employment status when deciding if they’ll give someone a loan, but they pull out the magnifying glass when that someone is self-employed.
They want to feel confident that the borrower will be able to pay the loan back now – and for the foreseeable future. (Or for as long as the borrower is responsible for paying back the loan.)
Career consistency can play an important role. If you’ve been self-employed in the same field or owned a business in the same industry for at least 2 years, that can give lenders a lot of confidence in you as a borrower.
Professional History: What You Can Do
If you’re self-employed and have been doing the same work for at least 2 years, be prepared to show lenders evidence.
Depending on your lender, it may help your application if you can provide:
- Invoices and documentation of payments you’ve received
- Your business website
- Copies of your business registration
Even if you haven’t been working very long, you can still get a personal loan. Just know that your income and creditworthiness will become even more important to your lender.
What To Do if You’re Having Trouble Getting a Personal Loan
Calling all self-employed borrowers: You’ve got options when it comes to covering life’s expenses!
Using collateral to secure a loan
Most personal loans are unsecured loans. (They don’t require any collateral, like a car, boat or house.) If getting an unsecured personal loan is proving difficult, consider getting a secured loan. Secured personal loans are a good option if you have a valuable asset to offer. A secured loan could help the lender get past any concerns they may have about your income. And here’s a bonus: Secured loans typically offer lower interest rates.
Alternatives to personal loans
There may be situations when a personal loan isn’t the right solution for you. Maybe you’ve been trying to get a personal loan, but you haven’t had any luck. Maybe you need the money, like, yesterday. Or maybe the amount you need doesn’t justify going through the loan process.
There are two alternatives:
Both can be a huge help, but both carry some risk you should take into consideration.
Because of their high interest rates and costly late fees, credit cards can create a cycle of debt that can be hard to escape.
If you’re a homeowner, borrowing against your home’s equity, whether it’s a loan or a line of credit, can be a less expensive route. But – and this is a super-important but – because your home acts as the collateral for a home equity loan or HELOC, if you miss payments, you could lose your home.
Personal Loans for the Self-Employed
Whether you’re navigating gigs or running a small business with employees, there are lots of reasons why you might want (or need) to take out a personal loan.
No matter the reason, a relatively low-interest injection of cash can help you stay on track with your financial goals.
An unsecured personal loan lets you borrow money with a lower interest rate than you’d be charged with a credit card. But, because you’d be putting up an asset for collateral, a secured loan would get you the lowest interest rate.
No matter what you choose, borrowing money – and paying it back on time – can help you cover costs and add valuable payment history to your credit report.
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U.S. Small Business Administration. “PPP loan forgiveness.” Retrieved September 2021 from https://www.sba.gov/funding-programs/loans/covid-19-relief-options/paycheck-protection-program/ppp-loan-forgiveness