While none of us want to be in
debt, sometimes it becomes an unwelcome necessity.
However carefully you try to
plan ahead and manage your finances, you may one day need to borrow money.
And you are not alone. Almost every adult in the UK has a loan or credit
at some stage. Although it is tempting to take up more than you need,
borrowing sensibly is the only way to avoid financial headaches.
The difference
between the two different types of loans
The two main types of
borrowing come in the form of secured loans and
unsecured loans. Secured borrowing
includes
mortgages or other loans which are linked
to your house or another major asset. If you fail to repay, or 'default',
on the loan then the lender has a claim on that asset. If you do not fancy
holding your home hostage, then personal loans, credit cards and
overdrafts are widely available routes to unsecured borrowing:
Personal loans are lump sums
which can be borrowed from banks, building societies and loan companies.
The loan is usually arranged for a fixed period and Annual Percentage Rate
(APR), with monthly repayments made by direct debit. These are the most
popular for amounts between £1,000 and £15,000 and interest rates tend to
fall between 6% and 13%.
Overdrafts allow you to
borrow smaller amounts - usually around £500 to £4,000 - via your current
account. Although the loan may be convenient and easy to arrange, it is
unlikely to be the cheapest way to borrow and can attract interest of
anywhere between 8% and 20%. However, straying beyond the authorised limit
will mean fees, higher interest and nasty letters.
How to make your loan
the most affordable
When you take out a loan, you
will probably think about how much you want to borrow and for how long.
But the real question is 'what can you afford?'. Consider how much you can
realistically afford to pay back each month and do not be tempted to
over-commit yourself.
To make your money go further,
borrow at the lowest possible APR. This relates to the interest rate you
will pay on the cash you borrow. Avoid taking the first
loan offer which drops through your letterbox.
The market is very competitive and you will not have to shop around for
long to find a wide range of interest rates. At this point it pays to read
the small print. Lenders quote a 'typical' rate, ie the rate that most of
their customers receive, but this may only be offered to less than half of
the people that apply. Before signing up to a deal, check if the interest
rate is the advertised rate you were expecting and, if not, that it is
still competitive compared with what other providers may be prepared to
offer you.
Be clear about the
charges involved in any payment plan
Lenders sometimes offer a
lower APR if you borrow larger amounts or pay back over a longer period.
But taking more time to pay off the loan may not be the best option. If
you lost your job or faced other financial pressures, then a long-term
debt will be an additional burden. Payment protection is offered by most
lenders but it is not cheap and it does not cover those in temporary
employment. Make sure it is not automatically included in the terms of
your loan. On the flip side, if you are suddenly able to pay off the loan
early, you may be charged a penalty of some of the interest. Find out what
charges would apply before you sign on the dotted line.
