Our culture is built on credit; parents are even urged to get credit cards for their college-bound children to teach them how to use their money. It makes sense to borrow money from institutions such as banks because homes, cars, and college educations all cost more than most of us have in our bank balances. Lenders have developed several different types of loans to meet consumer needs. Here are five of the most common:
Fixed Rate Loans
This is a loan with a guaranteed interest rate which is usually set at the market rate when the loan is taken out. This type of loan makes it easier to work payments into your budget because you know what the amount will be each month. Wikipedia points out that the fixed interest can work against you, however, if you borrowed the money during a time of high interest and then the rate fell. You are stuck paying the higher rate. The opposite is true as well, though. If the rate goes up, you still pay the rate at which you started the loan.
These are probably the most familiar of loans. You use an asset as collateral for the money you borrow. For example, if you borrow money to buy a house, the home might be the collateral. Typically, lenders do not fund the entire purchase, but loan a percentage. If you default on the loan, the lender can repossess the asset and sell it to get back some of their money.
These are things like credit card debt, personal loans such as money borrowed from a peer, debt incurred through a bank overdraft program and other such funding. “Interest rates on unsecured loans is usually higher than that for secured loans because, in the case of default, there is no collateral that can be legally repossessed and the lender must resort to the court system to recoup its loss,” according to Sycamore Bank. In bankruptcy, secured loans take precedence over unsecured loans in recovery.
Demand loans are usually short-term, and there is no specific time of repayment. The interest rate usually is variable, which means it rises and falls with the market rate. These loans can be called in for repayment at any time.
These loans are also relatively short-term. The average is one-to-seven years. Your interest rate for a personal loan is based on a combination of your income and your credit score. According to Forbes, good credit scores, those in the 680 to 729 range, can result in lower interest rates. The demand for this type of loan is rising in the US. They are cheaper than credit card debt. The average interest for a personal loan is 5.5 percent, but credit card interest averages 15.9 percent or higher.
There are other loan types, such as subsidized and unsubsidized, that affect how you borrow money. If you are considering getting a loan, the best advice is to be a wise consumer and to shop for the best loan for your needs.