View all Financing & Loans articles

Banks vs. Online Lenders: Which Option Should Borrowers Choose?

In the past, when people needed to borrow money, lending options were fairly limited. Many, by default, would simply apply for a loan with their bank. Or, if you were a diligent shopper, perhaps you'd widen your net to consider other local banks and credit unions too.

But, as with many other areas of life, the internet has revolutionized the lending industry. Gone are the days of having to visit a brick-and-mortar bank branch near you to apply for financing. Today, borrowers can shop their loan rates with a variety of online lenders in minutes.

While that can make online lenders more convenient, that doesn't necessarily mean they'll be the right choice for everyone. Below, we compare banks vs. online lenders and discuss the pros and cons of each.

What is an online lender?

Technically, any bank or credit union can launch a website and offer online loans. However, typically the term "online lender" refers to non-bank lenders. Non-bank online lenders can't accept customer deposits. They're restricted to offering loans, lines of credit, or credit cards.

Since they don't offer deposit accounts (i.e., savings account, checking accounts, etc.), they also aren't required to obtain a full banking license. This means that online lenders usually face less government regulation than traditional banks and credit unions.

Online lenders also tend to focus on specific loan types. For example, some may only offer mortgages or mortgage refinancing, while others may stick to personal loans or peer-to-peer lending.

Banks vs. online lenders: the key differences

Armed with a basic understanding of what online lenders are, let's take a closer look at how their loan processes, rates, and terms compare to banks.

Application and funding process

This is one area where online lenders usually have a big advantage. Most non-bank lenders were built from the ground up to maximize speed and convenience.

Often, online lenders will allow you to check the rates you might qualify for with a soft credit pull so that your FICO Score won't be affected. And full loan applications are usually easily submitted from a computer or phone as well (including uploading and eSigning documents).

Finally, time to funding may be faster with online lenders too. For personal loans, you may be able to receive your funds as soon as the same day that you receive loan approval.

And due to streamlined digital processes, you may be able to reach the mortgage closing table several days or weeks faster with an online lender than the banking industry average.

Eligibility requirements

If you have limited or damaged credit, you may have a better chance of getting approved for a loan with an online lender.

Some non-bank lenders offer more lenient FICO Score requirements. But since banks are subject to federal compliance laws, it may be more difficult to get a loan from them with bad credit.

Interest rates and fees

Without physical branches to maintain, online lending companies are often able to save money on overhead costs. Some may choose to pass those savings along to the customer in the form of reduced rates and fees.

However, there is no guarantee that an online lender will be your lowest-cost option. This is especially true if you're using an online lender to take advantage of less stringent FICO Score requirements.

Lending to consumers with less-than-stellar credit is riskier for lenders. In exchange for taking on this extra risk, non-bank lenders may charge higher-than-average interest rates, origination fees, or other costs.

Not all online lenders are created equal. Be sure to read third-party reviews before choosing one. And steer clear of any lenders that have been known to use predatory lending practices.

Finally, it's important to note that some banks may offer rate or fee discounts for existing customers. Call up your bank's customer service number or stop by your local branch to see if you qualify for a loyalty discount.

Customer support

Banks often come on top in the customer service category. When you need extra help with a bank loan, you often have the option of stopping by your local branch to sit down with a banker. Online lenders rarely offer this type of face-to-face support.

That's not to say that digital lenders are terrible at customer service. Many of them have trained support teams that can quickly answer questions by phone or email. But if you'd like a little more handholding during the loan process, it's hard to beat a local bank or credit union.

Product selection

As mentioned earlier, online lenders often focus on a particular section (or even sub-section) of loans. For example, some may offer specific personal loan products for borrowers who will use the funds for a home improvement project or debt consolidation.

Banks, on the other hand, tend to offer a wide variety of loan products. Plus, customers also have the option to open savings accounts, checking accounts, CDs, or other deposit products.

With so many products available, it's likely that your bank could handle all of your savings and borrowing needs. And choosing to keep all your loan and deposit accounts in one place could make it easier to track and manage your finances.

Banks vs. online lenders: how to choose

We've covered the differences between banks and online lenders. But which option should you choose? Based on the information covered above, here are tips to help you decide:

You may want to choose an online lender if:

  • You need a fast turnaround time on your loan
  • You have a limited or damaged credit history
  • You want the convenience of a completely digital loan process

However, you may want to choose a bank if:

  • You want in-person customer support
  • You could qualify for a loyalty discount
  • You prefer to keep all your financial products under one roof

Final thoughts

There's really no "right" or "wrong" answer when it comes to choosing a bank or online lender to fund your loan. Depending on your situation, either could be a strong choice.

Regardless of the type of lender that you choose, be sure to shop your loan with multiple companies. The more you shop, the better chance you'll have of finding the lender that will offer you the best blend of convenience and attractive terms.

Clint Proctor

Clint Proctor is a freelance writer and founder of WalletWiseGuy.com, where he writes about how students and millennials can win with money. His work has been featured in several major publications including Business Insider, U.S News and World Report, Yahoo Finance, and Forbes.