When cash flow is tight, several different types of personal loan offer a possible solution. Signature loans offer the best terms—they only require your signature as collateral and typically offer more attractive rates than other types of unsecured debt.

Explore the ins and outs of signature loans and decide if one is right for you.

What Is a Signature Loan?

A signature loan, also known as a “good faith loan” or character loan, is a type of personal loan offered by banks and other finance companies that only requires the borrower’s signature and a promise to pay rather than physical collateral such as a car title or a home. A signature loan can typically be used for any purpose that the borrower chooses. Interest rates may be higher than other forms of credit due to the lack of collateral, but may be lower than other forms of unsecured credit such as credit cards.

How a Signature Loan Works

To determine whether to grant a signature loan, a lender typically looks for a solid credit history and sufficient income to repay the loan. In some cases, the lender may require a co-signer on the loan, but the co-signer is only called upon in the event that the original lender defaults on payments.

Signature loans are one type of unsecured term loan. “Unsecured” refers to the fact that these loans are not secured by any form of physical collateral, unlike home mortgages and car loans. “Term” means the loan is amortized over a predetermined time period and paid off in equal monthly installments.

Signature Loan vs. Revolving Credit

Applications for regular credit or revolving credit loans normally trigger a funding delay while the banking institution or loan company examines the borrower’s credit history and checks personal qualifications. By contrast, the funds obtained through signature loans are deposited in the borrower’s account more quickly, allowing earlier allocation to financial needs.

As soon as a signature loan is paid off, the account is closed, and the borrower needs to apply for a new loan if they require additional funds. In contrast, a revolving credit account allows the indebted party to repay the loan and maintain the line of credit until the borrower or lender chooses to end the relationship and close the account.

Examples of Signature Loans

Borrowers use signature loans for a range of purposes, including home improvement, unexpected expenses, medical bills, vacations, and other large expenditures. Some borrowers also use signature loans to consolidate other debts.

Let’s say a borrower gets a signature loan with a 7% interest rate for an amount equal to the total of balances that they are carrying on credit cards, with rates ranging from 12% to 20%. The borrower then uses the signature loan to pay off the credit cards in full. The borrower will realize distinct savings by repaying the same amount of money at 7% rather than at the former higher rates.

If you’re thinking about taking out a signature loan, then a personal loan calculator could be useful for figuring out what the monthly payment and total interest should be for the amount you’re looking to borrow.

The Bottom Line

Signature loans are a type of personal loan requiring only a promise to pay as collateral. While in the past they were typically made to people with poor credit, today they are pretty much reserved for customers with better credit scores.

Remember that not all banks offer signature loans, and interest rates tend to be higher than with secured loans.