At one point or another, everybody has been in a situation where they are in need of cash that they do not have. Whether it is for a medical expense, personal expense, or some other cause, there are plenty of reasons an expensive payment may be on the horizon. Unfortunately, few people have the ability to meet these expenses out-of-pocket which is why they may turn towards loans instead.
While debt can be helpful, it is dangerous to take out without knowing how to properly manage it. In fact, over 64 million Americans currently carry credit card debt, which is only one of many different forms of debt. Loans, on the other hand, allow a person to borrow far more than credit cards, but they often have far harsher repercussions when taking a long time to repay the amount. Learn how to take on this debt responsibly so that you don’t accidentally end up borrowing more than you can afford.
What is a Loan?
Those who have never taken out debt before may be confused by what a loan actually is. All this form of debt refers to is an agreement between a lender and a borrower in which the lender loans money to the borrower. This money is to be repaid by a certain period of time including any and all interest or fees on top of the original amount. In some cases, a loan may require a borrower to put down something known as collateral, which is a form of security that the lender can take possession of if repayment is not met.
Common Loan Terminology
The next step in learning how to manage a loan responsibly is understanding the different terminology associated with the loan:
- Loan Principal: This is arguably the most important part of the loan terminology and refers to the entire sum of money initially borrowed.
- Loan Tenor: The tenor of a loan refers to how long the borrower has to repay the loan and can be anywhere from as soon as thirty days to as long as tens of years.
- Loan APR: A loan APR, annual percentage rate, is the interest and any fees that are owed on top of the original principal. APR can vary drastically depending on the terms of the loan and a person’s credit score.
- Loan Payment: The loan payment refers to the monthly or lump sum payment a borrower is required to pay in order to meet their financial obligation.
3 Common Types of Loans to Consider
With the basics of loans covered, the next natural step is to look at common loan types that a person can consider taking out. In particular, there are three choices that most people consider taking out:
1. Title Loan
A title loan is a short-term, high-interest loan that provides a borrower with a lump sum of cash in return for the title of their vehicle. The tenor of these loans is typically just thirty days, and the APR tends to be the equivalent of around 300%. Given this high cost of borrowing, most people looking up title loan companies near me are only looking to borrow a small amount of money.
2. Personal Loan
As opposed to title loans, personal loans are short-to-long term loans that offer a borrower somewhere between $10,000 to $100,000. These loans are most often unsecured, meaning no collateral is required, but they typically require stricter credit requirements in order to be approved.
3. Home Equity Loan
Finally, a home equity loan takes elements from both title loans and personal loans. This type of loan allows a person to borrow a sum of money that is equal to a portion of the equity they have in their home, usually around 50%-75%. Given the fact that a person needs to have equity in their home, it is technically a secured loan.
Drawbacks to Borrowing with a Loan
Before thinking about taking out a loan, there are a number of drawbacks that all potential borrowers should consider. The most prominent of those drawbacks are below:
Interest Rates Can Be Higher than Alternatives
Depending on the type of loan that a person is considering taking out, it’s possible that the interest rate they face will be far higher than other alternatives. For example, those who are considering taking out a title loan will be faced with a far higher interest rate than simply throwing the debt onto their credit card. However, taking out a personal loan may actually result in a lower interest rate, which is why evaluating all options is so important.
An Existing Debt Load Will Be Increased
It’s unlikely that the loan you are currently considering is your first foray into debt, which means it’s likely that you already have debt outstanding. By taking out a loan, a person is simply adding to their existing debt which can make all the payments they make on a monthly basis more challenging to meet.
The Potential Damage to Credit
When adding debt into your financial situation, it’s possible that your credit score will be damaged if you cannot make payments on time or in full. This is why ensuring that you only take on as much debt as you can handle at any given time is so important, as taking on anymore can quickly result in negative repercussions.
There Might Be Fees
Some lenders may attempt to hide their fees in a small section within their contracts, which can result in a borrower paying more over time than they initially were led to believe. Always inquire with lenders in order to see what fees, if any, will be charged with the loan.
The Bottom Line
While taking out a loan to meet your financial obligations may seem tempting at first glance, it’s best to only do so if you are completely certain you can afford the debt. This doesn’t simply mean being sure you can meet your minimum payment, rather it means being able to make the entire payment in-full every month. By doing so, a person can be certain that they will not make their financial situation worse when taking out money.