Loan proceeds can be used for a variety of purposes, from financing a new company to buying your fiancé to an engagement ring. But with all the different types of loans out there, which type is the best? In this article we take a list of some of the more popular types of loans, as well as their characteristics and their usability for meeting the financial needs of consumers.
These loans are offered by most banks and the proceeds can be used for almost any cost (from buying a new stereo system to paying a common bill). Generally, personal loans are not guaranteed and range from a few hundred to a few thousand dollars. As a general rule, lenders generally require some form of income verification and / or proof of other assets that are worth at least as much as the individual borrows. The application for this type of loan is usually only one or two pages long. Approvals (or refusals) are generally granted within a few days.
The disadvantage is that the interest rates for these loans can be quite high. According to the Federal Reserve, they range from around 10-12%. The other negative point is that these loans sometimes have to be repaid within two years, making it impractical for people who want to finance large projects.
In short, persuasive loans (despite their high interest rates) are probably the best way to go for people who want to borrow relatively little money and who are able to repay the loan within a few years.
When consumers use credit cards, they actually take out a loan, on the understanding that they will be repaid at a later date. Credit cards are a particularly attractive source of financing for individuals (and companies) because they are accepted as payment by many – if not most – merchants.
In addition, obtaining a card (and by extension $ 5, 000 or $ 10,000 in credit) is all it takes is a one-page application. The credit assessment process is also fairly fast. Written applications are usually approved (or refused) within a week or two. OUrizenine / telephone applications are often assessed within a few minutes. Credit cards are also extremely flexible with regard to their use. The money can now be used for almost anything, from paying tuition to buying a drink at the local watering place. (For more information about this process, see The importance of your credit rating and How credit cards affect your credit rating.)
However, there are certainly pitfalls. The interest rates that most credit card companies use are up to 20% per year. Moreover, it is more likely that a consumer will collect his debt with a credit card (as opposed to other loans) because it is generally accepted as a means of payment and because it is psychologically easier to provide someone with a credit card than to pay the same amount in cash. this type of loan, see Management of your credit cards, Credit, debit and costs: the cards in your wallet and mapping interest.)
Home Equity Loans
Homeowners can borrow against the equity that they have built up in their home with the help of a loan with equity. In other words, the homeowner takes out a loan at the value of his or her home. A good method to determine the amount of equity available for a loan is to take the difference between the market value of the house and the amount that still rests on the mortgage.
The proceeds from the loan can be used for a number of reasons, but are generally used to build additions to the home or to consolidate debts. The interest rates on loans in equity are also very reasonable. Moreover, the conditions of these loans usually vary from 15 to 20 years, making them particularly attractive for people who want to borrow large amounts. But perhaps the most attractive feature of the equity loan is that the interest is usually tax deductible.
The disadvantage of these loans is that consumers can easily keep their heads above water by pawning their houses to the limit. In addition, home capital loans are particularly dangerous in situations where only one family member is the breadwinner and the family’s ability to repay the loan may be hampered by the death or disability of that person. Even a 1% increase in interest rates could mean the difference between losing and retaining your home if you are too dependent on this loan.
Note : in such situations, life / disability insurance is often used to protect you against the possibility of default. (For more information on this topic, read Home-Equity Loans: The Costs and The Home-Equity Loan: What It Is And How It Works.)
Home equity line of credit
This credit line acts as a loan and is comparable to loans based on equity, because the consumer borrows for the equity of his home. However, unlike traditional home capital loans, these lines of credit continue to run, meaning that consumers can borrow a lump sum, repay part of the loan and then borrow again. It’s a bit like a credit card with a credit limit based on the value of your house! These loans can be tax deductible and are usually repayable over a period of 10 to 20 years, making them attractive for larger projects.
Because specific amounts can be borrowed at different times, the interest charged is usually linked to a certain underlying index, such as the “prime interest”. This is both good and bad, in the sense that at certain times the interest rates applied can be quite low. However, during a period of rising interest rates, interest charges on outstanding balances can be quite high.
There are also other disadvantages. Because the amount that can be borrowed can be quite large (usually up to $ 500,000, depending on the value of a home), consumers tend to get above their heads. These consumers are often lured by low interest rates, but when the rates begin to rise, those interest charges begin to recover and the attractiveness of these loans diminishes.
Advances on cash are usually offered by credit card companies as short-term loans. Other entities, such as tax preparation organizations, may offer advances against an expected IRS tax refund or against future consumer income.
Although cash advances may be easy to obtain, there are many drawbacks to this type of loan. For instance:
- They are usually not tax deductible.
- Loan amounts are usually in hundreds of dollars, making them impractical for many purchases, especially large purchases.
- The effective interest charges and related fees can be very high.
In short, cash advances are a quick alternative to getting money (funds are usually available locally), but due to the many pitfalls, they should only be considered as a last resort. (More information about advances in Payday loans Do not pay.)
Small Business Loans
The Small Business Administration (SBA) or your local bank usually extend small business loans to prospective entrepreneurs, but only after they have submitted a formal business plan (and have received permission). The SBA and other financial institutions generally require that the person guarantees the loan, which means that they must probably place collateral in the event of a company’s failure. Loan amounts can range from a few thousand to a few million dollars, depending on the company.
Although the term of the loan can vary from institution to institution, consumers usually have between five and 25 years to repay the loans. The amount of interest on the loan depends on the credit institution where the loan was granted. Bear in mind that borrowers can negotiate with the lending institution about the amount of interest charged. However, there are some loans on the market that offer variable interest rates.
Small business loans are the way to go for anyone who wants to finance a new or existing business. Be warned though: it can be difficult to get a business plan approved by the lending institution. Moreover, many banks are not prepared to finance “cash companies” because their books (ie tax returns) often do not accurately reflect the health of the underlying company.
The bottom line
Although there are many sources that individuals and businesses can tap for money, all consumers must assess both the positive and negative aspects of a loan before they sign on the dotted line.
See Get a loan without parents to read more about this topic.