Everybody needs a hand every now and then. Understanding the intricacies of finance is one of those things that we could all use a little help with, and this is especially true when it comes to understanding loans. There are going to be times when you need more money than you have, and saving isn’t always a reliable method when the sums you need are in the tens of thousands (or, in some cases, hundreds of thousands!). Precious few of us have the capability to walk into a car dealership or relator carrying a comically large sack with a dollar sign on it full of money. Unfortunately, we almost certainly need to borrow money at some point in our lives. It’s almost required to buy a car, buy a house, or go to college. You’re not alone, either; a little over half of all Americans have borrowed from a bank or independent lender.
Taking out a loan can be scary if you’re new to finances and the labyrinthine rules around them. Young people entering the wide world of personal finance might have a poor understanding of how it works, particularly given the threadbare education they receive on the topic in American public schools. Young people aren’t the only one who could use a few pointers, as many adults remain ignorant of the way borrowing money works on all but the most basic level. While there’s nothing wrong with being new to something or lacking understanding of something you were never taught, that gap in your knowledge might translate into a disadvantageous position when trying to borrow. Knowledge is your best weapon in the arena of finances, and this article aims to leave you nothing short of frightfully armed.
In this guide we’re going to go over some of the most common kinds of loan and, more importantly, how they’re similar and different to one another. This article is meant to be a good starting point for your own research, and there’s no way we’ll be able to go over every detail of every way to borrow money. First, we’ll look over the basic elements that you’ll find across any kind of loan, and how those elements work. They’re going to be the primary ways different methods of borrowing differ from one another and understanding them is fundamental to getting a good grasp on the more specific types. If you need a hand navigating this complex and ultimately necessary part of personal finance, this guide is for you. Read on and discover what different kinds of loans are and how they work.
What Do All Loans Have in Common?
The first thing you need to understand is the way interest rates work, as they’re the most fundamental part of borrowing money. When you take out a loan from a bank or independent lender, you’re agreeing to pay it back with interest. The amount you borrow is called the principal amount, and interest is an additional percentage of that principal that you pay back in addition to the base amount. For example, if you borrow $10,000 with an interest rate of 1%, the total amount you’ll pay back is $10,000 + $1000 interest for a total of $11,000. While this may be something you already understand, this guide assumes no knowledge of how borrowing money works, hence the explanation of what interest is.
What you may not know is that there are two different kinds of interest and determining which one you’re working under will save you a lot of surprises. The simplest kind is the humble fixed rate. A fixed rate is easy to understand and easier still to work with. This is an interest rate that doesn’t change during the entire repayment term, regardless of market forces that would otherwise change it. Let’s use the example from the previous paragraph. If your fixed rate is 1%, the calculation we used remains the same and you will only ever pay back $11,000. Meanwhile, a variable rate is one that changes over time. You may have 1% one month, followed by 1.15% the next, and then 2% the next. The market forces that dictate how this is calculated are beyond the scope of this article; what you need to understand is that a variable rate changes to reflect the marketplace standard, also called the prime rate.
Next, you need to understand collateral. Depending on what kind of loan you take out, you may be agreeing to put up something of substantial value as collateral in case you fail to pay or default on your repayments. For mortgages and car loans, the collateral will be the house and car respectively. Whoever you borrow from can legally seize those assets if you don’t pay the loan back. It’s rare for other kinds of loan to have collateral, but the specifics will depend on the contract you sign. If you borrow with collateral, you’re entering what’s called a secured loan. Meanwhile, unsecured kinds don’t have collateral attached. The interest rate for unsecured loans is almost always higher to compensate for the increased risk to the lender.
What Are Personal Consumer Loans?
There are four major things you’ll need to borrow money for: mortgages, education, small business, and personal. Personal consumer loan is a catch-all term for anything you borrow money for that doesn’t have a specific set of considerations for, and is therefore the most flexible kind of borrowing you can do. They can be used for just about anything, and are a popular option if you have a big ticket expense coming up. This can be a way to secure funds for your dream wedding, a big vacation, or even an emergency medical bill that isn’t covered by your insurance. There is a downside to this method, however: with the flexibility to borrow for anything comes a lack of market standard for repayment terms, and your lender can negotiate higher interest rates or longer repayment periods from a position of strength.
Personal consumer funds are almost always unsecured, meaning you won’t have to put anything up for it. Enforcing collateral would be difficult, as the bank can’t repossess a marriage or vacation! However, you can expect higher interest rates to compensate for this; indeed, personal loans have some of the highest interest rates on the market. A lånekalkulator forbrukslån, a special kind of repayment calculator, can help you determine what terms are best for you. Using the tool you can simulate different repayment conditions, including interest rates and repayment terms, to determine what’s affordable to your budget.
Taking Out a Mortgage
Mortgages make up the most common debt in America, and due to the cost of homes most citizen debt by amount is from mortgage contracts. They’re an easy kind of debt to manage and repay; despite the complexity of buying a home, once the contracts are signed the actual repayment is straightforward. Although fixed rate mortgages do exist, variable rates are the industry standard. Typically, these are fixed for a predetermined period of time before the rate switches to a variable one that matches the current market standard. This is the only way most people will ever own a home, and therefore is usually the biggest kind of debt a person will take on. Housing is a necessity, and therefore mortgages are an unfortunate fact of life for most homeowners.
Mortgages are always secured by collateral: the house itself. If a borrower doesn’t repay the loan, the lending agency will foreclose on the house and sell it off to recuperate their losses. Mortgages are unique in that the United States government provides aid for them. Certain government agencies, like the Federal Housing Administration, can provide favorable terms to first time or low-income borrowers. This allows people who would otherwise find it impossible to own a home to qualify for the necessary loans, providing a path to home ownership for more people. The process is long and complicated, but worth it!
The Dangers of Student Loans
Student debt is the second most common kind of debt in the Unites States, second only to mortgages. Currently, student debt has created a major crisis among borrowers due to the general state of the economy and unfavorable repayment terms. The sad fact is that attending university is impossible without borrowing money for all but a fraction of students. The cost of tuition is absurdly high and has inflated several hundred times from what it was just a few decades ago. Tuition can run you tens of thousands of dollars a year! Most students don’t borrow with a good understanding of how loans work, which is a problem in and of itself, but that isn’t the only reason repayment is difficult (or, in some cases, outright impossible) for graduates.
Student loans have absurdly high interest rates, sometimes pushing as high as 10% to 15% on the principal, and you can count on those rates to be variable ones. Combined with the general economic trend of stagnating wages, most graduates aren’t making enough money to repay their debts, and an overwhelming majority can’t find work in the field they studied for. It may be tempting to decry these borrowers as lazy or stupid for taking out debt they can’t possibly pay back, but the reality is far more complex than what so simple a narrative would suggest. A new phenomenon has developed wherein rising interest rates and inability to pay all but the minimum monthly payment, if anything, cause the debts to rise regardless of repayment.