Understanding Different Kinds Of Loans
If you are thinking of borrowing money, then the first thing that you need to be
sure to understand is that borrowing money is more expensive than using cash for a purchase, sometimes a lot more. How much more will depend upon the particular interest rate used together with the time frame over which you intend to pay the money back.Interest rates vary so the interest on $1000, for example, the cost can range from $42.50 to $250. Consumers need to understand exactly how much interest they will pay before making a commitment.
When considering the interest rate however, be careful not to get sucked into believing the headline numbers that the lenders like to put in front of you. These numbers will always tend to flatter the lender in a such a way as to make that particular lender most attractive.
What should be of real concern to anyone looking to take out a loan is the total price that will be paid for an item including the interest amount together with the actual annual interest percentage rate.
The actual cost of a loan is the amount borrowed, plus the cost of interest plus any other charges. For example, $1,000 borrowed and paid in full after a year along with $60 in interest has a true interest rate of 6%. But the same loan repaid month by month, averages about $500 for the borrower throughout the year.
The true interest rate for such an installment type loan is actually 12%. There are many different loan offers available these days, but if you make a careful study of the actual cost of each loan offering it will quickly become apparent which are the good ones and which are less desirable.
All commercial banks make loans to depositors and non-depositors. Sometimes a bank makes loans secured by savings accounts or other valuable assets such as stocks or bonds. The owner of the accounts does not have access to them until the loan is paid in full. Banks also make personal loans based upon the borrower's signature.
This kind of loan is more difficult to obtain and approval is based upon several requirements such as: if the applicant pays their bills on time, if their employment is stable enough to continue throughout the term of the loan and if the loan payments will overextend the persons budget.
Small loan firms lend lower amounts than banks. An advantage of borrowing from such companies is that they usually make loans faster than banks. They use the company's money and not that of depositors. The loans small loan firms make tend to be high risk and they have high bad debt losses.
Because of great financial risk, these companies have high interest rates of 9% and 36%. A borrower with good credit may qualify for a signature loan. Those with lower credit ratings may use a car or household appliances and furniture as security for this type of loan which is called a chattel mortgage.
Also available is a payday loan which requires the borrower to agree to a wage assignment. Some insurance policies are a kind of savings account that earns cash value over the years as premiums are paid. The monetary value, known as cash surrender, becomes available by canceling the policy and returning it to the company.
An example of the surrender value of a $5,000 policy that has been in effect for some time is $2500. It is possible to borrow $2,500 on a policy of that amount at a true interest rate of approximately 5% annually.
This strategy has the advantage of retaining the policy for beneficiaries but the value of the policy is reduced by $2500 until the loan is repaid. All banks loan on cash surrender value. An individual's financial health is good if installment payments remain at 20% or less of income.
In fact, that amount of installment debt is found in about 75% of American families. Installment purchases come with a higher price tag than many people realize. For example, a washing machine is offered for $300 with no money down and monthly payments of $15. A two-year contract means that the actual price is $360.
The consumer has to determine if not having to wait for the washer for two years makes the additional $60-a 20% interest rate-in price acceptable. Some financial advisors believe the buyer should make a down payment and sign a contract of no more than two years.
by: Jack Landry