Basic Loan Conditions That Everyone Should Know Before Borrowing Money
If you want to buy a house or graduate, you will probably need a loan. However, there are many different types of loans and they can be confusing. Here are the main ones you should be aware of (and you should also read this economics glossary ).
Credit Basics
A loan is money (sometimes property or other material benefit) that a lender gives to a borrower on the condition that the borrower repays it with interest. Banks usually issue loans to individuals or organizations.
Here are some of the main types of loans, according to Experian Financial :
- Personal loans are loans that can be used for almost anything the borrower wants, which makes them different from car loans or education loans. They can be used for emergencies, weddings, renovations, or any other large expenses.
- Car loans are designed to let you borrow the cost of the car you plan to buy, but they don’t cover the down payment. The vehicle itself will serve as collateral and can be seized if you don’t pay consistently.
- Student loans are used to pay for undergraduate or graduate studies and may be provided by the federal government or private lenders. You usually need a federal one as they offer deferment, income-based repayment options, and other benefits.
- Mortgages cover the cost of buying a home, but like car loans, they don’t cover the down payment. Just like auto loans, they come with collateral: your home can be foreclosed on if you don’t pay consistently. Some mortgages may be backed by government agencies, such as the Federal Housing Administration or the Veterans Administration, depending on whether the borrower qualifies.
- Home equity loans allow you to borrow up to a percentage of the equity in your home to use as you see fit.
- Credit building loans are supposed to help people with bad credit (or no credit) improve their credit history. The lender deposits the loan amount into a savings account, and the borrower makes fixed monthly payments for periods ranging from six months to two years. When the loan is repaid, the borrower receives the money that was set aside. In some cases, you even get it with a vengeance.
- Debt consolidation loans are personal lines that will help you pay off high-interest debt, such as credit card debt. They help you collect all your debts in one place so that you only make one payment each time you pay for it.
- Payday loans are generally bad news and should be avoided. You may get the money earlier than your usual payday, but these loans are short-term and have incredibly high fees. They must be fully repaid by the next time you get paid, or you’ll have to renew your loan with new fees and charges. Avoid them as much as possible.
Important Loan-Related Terminology
The following words refer to the types of loans listed above:
- Unsecured loans do not require collateral but tend to have higher interest rates than secured loans given that they are more risky for the lender. Auto and home loans are not unsecured, but many are personal loans. Secured loans are those that use some sort of collateral.
- Installment loans (also called term loans ) must be repaid in fixed installments over a set period.
- A revolving loan allows you to borrow up to a certain amount. At the end of each billing cycle, you will either pay off the debt in full or roll it over to the next month’s balance with only the minimum payment.
- Fixed rate loans have an interest rate that will not change over the life of the loan, while floating rate loans have an interest rate that can change.
Another phrase to be aware of, according to Forbes , is the “annual interest rate” or APR. This refers to the total annual cost of obtaining a loan, from the interest rate to other financial costs. Lenders are required to disclose APR by law, so be sure to look for it when considering a loan.
Finally, you may need to take out a loan from someone else. For example, if you and your partner qualify for a mortgage loan together, you will be co-borrowers or two people who are jointly responsible for paying off the loan. Lenders look at the borrower’s credit and income to qualify you, and both of you end up owning the asset in question, such as a house or car. If you are the only person who receives a loan but you have a bad credit history or no credit history, someone else with a higher score may sign along with you, meaning that they will be responsible for paying off the loan if you do not do this. them, and their credit is also on the line.