What is 'Character Loan'

A character loan is a type of unsecured loan that is made on the basis of the borrower's reputation and credit. Borrowers are typically able to obtain only small loans by this method, since if the borrower is unable to repay the loan, the bank will most likely encounter considerable difficulty in recovering the loaned funds. This is in contrast to secured or collateralized loans under which repayment of the loan is secured by a valuable piece of property or equipment. 

BREAKING DOWN 'Character Loan'

Character loans are often called signature loans because they are “secured” only by the borrower’s signature. Such loans are sometimes available from local banks and credit unions, particularly to longtime customers of the institution. To qualify for a signature loan, applicants typically need to demonstrate outstanding credit history and financial integrity. Borrowers will be impressed by applicants who own local businesses or have been employed at the same firm for many years, as well as those who have owned their home for a long time and have obvious roots in the community. Loan amounts are typically less than $10,000.

Character loans tend to occur in small towns where local bankers know the borrowers personally—can attest to their “character”—and feel comfortable taking the risk of an unsecured loan. They also remain popular on many Caribbean islands—again where communities are close.

The modern option for character loans

For people who live in bigger cities, signature loans are probably not an option. Fortunately there is a modern-day version of the character loan: a cash advance from a credit card. Like small-town signature loans, credit cards are unsecured by collateral such as a home or car; if you don’t pay back the cash advance, the card issuer has nothing to take back.

Before obtaining a credit card, the issuer checks the borrower's credit report (i.e. character), and determines how likely he is to repay the loan. The issuer then decides on how large of a credit line (i.e. loan) it will allow. Borrowers with poor credit or no credit may be unable to obtain a credit card, or may be extended only a very small credit line.

Credit card cash advances carry higher interest rates and fees than using a card to buy goods or services—but then so do bank character loans.

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