Are you wondering how loans work? If yes, then you’re in the right place!

In this post, we’ll talk about the basic things you need to know about loans, including how it works, the types of loans, short-term and long-term loans, and more.

The Basics

When it comes to loans, personal loans are the most popular. Its terms, cost, and interest can vary from one lender to another. Whether you use it for family, medical costs, paying for a title company, or unemployment funds, this type of credit is one of the easiest ways to address financial struggle and difficulty. 

However, it should not be taken lightly. Whether it’s your first time taking out a personal loan or not, it’s important to know how to compare loans from different lenders. If you have multiple loan options, you can look for the best deals for you and compare the fees, interest, and terms before making any decisions. 

Here are a few things to consider when choosing the best loan for you.

Short-Term Vs. Long-Term Loans

The best personal loan for your purpose depends on your current financial status. You may look for the basic type of personal loan with monthly interest and regular repayments that will be made over a stated period.

Short-term loans have higher monthly mortgage payments but often have a lower interest rate. Depending on your loan term, when you pay off your balance shorter than expected, you may pay less in interest overall. It usually has a 6-month to less than 3-year payment. 

The long-term loan has higher repayment tenures and can be repaid over an extended period. It usually takes from 3 years to 30 years. 

You can compare the different loan terms and then choose the shortest term available for you. As mentioned above, it can have a higher monthly payment but has a lower overall interest rate and you can finish your loan sooner. If, for some reason, you can’t take the short-term loan, then you may consider taking the longer-term loan. 

Interest Rates And Annual Percentage Rates

The interest rate and annual percentage rate is one of the important factors that you need to consider in deciding which loan is best for you. 

The interest rate on your loan is the percentage of the total amount of loan you’re borrowing and will have an impact on its cost. The annual percentage rate that is sometimes offered in the loan includes the interest rate plus loan fees and can give you a better sense of the loan's true cost. 

The interest rate has two types: Fixed rate and variable – A fixed-rate interest stays during the loan, you’ll pay the same rate until you finish paying for your loan. While a variable can change and can increase during the loan payment term. You can compare the interest rates and also review and take a good look at the annual percentage rate. 

Having good credit means lenders can give you low-interest rates because you’re a less risky borrower. So, maintain good credit to earn you a better offer.

Secured And Unsecured Loans

Secured loans are debts protected by collateral. This means that when you apply for a loan, the lender will want to know your assets and use them as a backup for the loan. In case of default, the lender will acquire your property to compensate for the remaining payments.

It is risky, however, it usually has lower charges and interest rates, better repayment terms, and a higher chance of approval.

One example of a secured loan is a title loan wherein the car is the collateral. In exchange for the loan amount, the borrower must surrender a physical copy of the car title and get it back once the loan is fully paid.

Meanwhile, there are unsecured loans that won’t require any guarantee or collateral from the borrower. That means you can borrow from the lender without surrendering a title or any of your property. While it sounds less risky, it often comes with higher interest rates and fees. 

Collateral

Collateral is an item or property of the borrower that is of value and pledged to the lender to secure a loan. With collateral, lenders can reduce the risk of not getting paid. The lender has the right to take hold of and sell the property to get its losses if the borrower is unable to pay on the loan agreement. 

Fees

These are the charges lenders can apply on a loan. Fees help lenders to cover the costs associated with processing a loan. Here are some common fees: 

• Origination Fee - is an upfront fee charged by the lender upon processing your loan.  
• Prepayment Fee – This is a fee charged by a lender for prepayment penalties when you pay off your loan earlier than the loan term agreement. 
• Late-Payment Fee – This is a fee charge if you didn’t make the payment on time.
• Insufficient Funds Fee – This is applicable if you have a checking account and it runs low. You could be charged for attempting to make a payment and don’t have enough money in your account to cover it. 

Monthly Payment And Long Term Affordability

Monthly payment is the amount that you have to pay each month until your loan is fully settled. 

Therefore, you have to take into consideration the amount you have to pay every month. Make sure that it doesn’t affect your budget so you can still pay your other bills while repaying your loan.

While some loans may provide a lower monthly payment than other loans, you have to think thrice before accepting offers. If you are on a tight budget and are looking for an interest-only payment or other types of low-payment loan, weigh things and think of what you can afford.

Generally, getting a loan with the lowest interest rate and loan term is ideal so it’s easier to afford the monthly repayments.

Consider The Total Amount Owed

The total amount owed includes the amount of money borrowed plus the interest and fees. You need to think and evaluate and choose a loan that has the least amount of money owed on the entire agreement term of course. If it’s too big or out of budget, you might want to look for another loan option.

Final Thoughts

A loan might sound like a good solution, especially when you’re running out of cash and you have no other options. However, you have to consider a lot of things, including the kind of loan you’ll get, the properties to surrender, and the interest rate.

Knowing the terms, and features of the loan, and how to shop for options give you an advantage in finding the one that suits you and may help you avoid falling prey to bad debts.