What to consider before taking out a loan
Loans are a great way for people buy something they cannot afford right away. Although loans are convenient, it is important that you understand how they work so you can get the one that best suits your budget and needs.
People take out loans for a range of purchases. Some are tailored specifically for certain purchases, such as car loans or home improvement loans. The money from such specific loans must be used for the purpose they are intended. This means, for example, that you cannot use a car loan to buy a boat. However, the most flexible type of loan is the personal loan, where money can be used for any purpose – a trip, a new TV, medical treatment, jewellery, or anything else you are interested in purchasing.
Loans today are available from a whole range of financial and non-financial institutions. Banks and building societies are the obvious ones, but there are also now specialised lenders that provide loans for cars, boats and houses etc. Many retailers also offer specific loans to allow you to purchase items such as electronics, furniture, kitchen goods and more. These are known as ‘financing’, but are loans nonetheless.
However, in this difficult economic environment, you should seriously consider whether taking out a loan makes financial sense or not. First, take stock of your financial standing – simply look at your income and your monthly expenses – and see how much you can afford to pay per month. If you feel that you cannot re-pay a loan, then consider saving up the money instead.
What are the different types of loans?
Generally speaking, there are two types of consumer loans: secured and unsecured. Secured loans tend to have lower interest rates than unsecured loans. This is because secured loans require collateral, which means you must put up an asset such as your home, your car, investments or any other valuable item you may own.
If you are unable to repay a secured loan, the lender will take possession of your collateral. Secured loans are, in many cases, the only option for those who do not have a good credit rating. Because of the collateral, lenders see secured loans as low risk.
Unsecured loans, on the other hand, are based on your credit rating, so are not available to everyone, especially young people who may have no credit history. Lenders will use your credit history and credit standing to see if you qualify for an unsecured loan. Unsecured loans tend to be more expensive because the lender has no recourse to an asset if you are unable to repay the loan. They can of course take you to court, but this can be an arduous process that does not guarantee success.
Do I qualify for a loan?
Generally, lenders will look at your credit history and compile a credit report before issuing a loan. This will involve looking at your income, how long you have been in your current job and any outstanding debts you may have. If you are young and do not have a long financial history, it may make sense to try to obtain a loan from your main bank. They are more likely to lend to you than an institution that does not know you.