Definition and Example of a Maximum Loan Amount
The maximum loan amount puts a cap on the amount of money a lender authorizes you to receive when you’re approved for a loan. A lender will likely consider your credit score, debt-to-income ratio, and other factors when determining your maximum loan amount. This process is called underwriting, and it helps lenders evaluate how big of a loan you’re actually able to repay so they can figure out how much money they’re willing to let you borrow. Let’s say you apply for a personal loan to remodel your kitchen. You have a 725 credit score (700 or above is generally considered “good” by lenders); an acceptable debt-to-income (DTI) ratio (your monthly debt payments divided by your gross monthly income); and a solid payment history. Your lender approves you for a maximum loan amount of $50,000. This means you can borrow up to $50,000—but no more. In other words, if your kitchen remodel ends up costing you $55,000, you’ll have to cover the extra $5,000 yourself.
How a Maximum Loan Amount Works for Unsecured Loans
As their name implies, unsecured loans such as credit cards and personal loans aren’t typically secured by collateral such as property, a car, or another valuable asset you own. For this reason, they’re sometimes known as good faith or signature loans, since you’re giving the lender nothing but your word by signing an agreement that you’ll repay the loan. If you apply for an unsecured loan, your maximum loan amount will be determined by the underwriting process. The higher your credit score and the lower your debt-to-income ratio, the less risky you’ll appear to lenders. This information signals you’re a responsible steward of your debt, and your finances in general. That means there’s a greater likelihood you’ll be approved for a higher maximum loan amount, along with potentially lower interest rates and more favorable terms. On the other hand, since unsecured loans don’t generally require collateral, if your credit score is below 700 and your debt-to-income ratio is higher than the 43% or lower target, lenders may perceive you as a higher-risk borrower. That can translate to a lower maximum loan amount, along with higher interest rates, heftier penalties for late or missed payments, and more stringent terms for the duration of your loan.
How a Maximum Loan Amount Works for Secured Loans
Unlike their unsecured counterparts, secured loans such as mortgages, home equity lines of credit (HELOCs), and car loans are backed by the collateral you’re borrowing against. That means if you default on the loan, the lender can seize your collateral, which may be your house or car, as payment. Since you’re required to put up collateral, lenders usually view secured loans as less-risky transactions. In general, that makes a secured loan easier to get than an unsecured loan, and they typically come with lower interest rates and higher maximum loan amounts. In some cases, government organizations are responsible for setting maximum loan amount limits for some secured loans such as mortgages. The Federal Housing Finance Agency, for example, sets the limits on mortgages purchased by Fannie Mae and Freddie Mac. In 2021, the maximum mortgage loan you can get approved for in many areas of the United States is $548,250 for a single-unit property. In high-cost areas, the mortgage limit jumps to $822,375.
