Borrowing money is a big decision and not something that can be rushed into without thinking it through. That's why most financial experts recommend you take the time to go through the advice section and answer the following questions.
How much do I need to borrow and how much can I afford?
What is a realistic repayment period for me?
What are my other borrowing options?
Should I go for a secured or unsecured loan?
What do I need to know about interest rates?
How do I find the best loan company or loan broker?
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How much do I need to borrow and how much can I afford?
The amount of money you need to borrow will probably be the same as the cost of the holiday, car, or any other item you intend to purchase. In any case that is a decision for you to make, the only advice I can offer is to make sure you only borrow the amount of money that you really need that you can afford the repayments.
In order to work out how much you can afford to pay back you'll need to have a money management plan. This plan contains your budget, all household income and all household outgoings and helps you to identify what you want to do with any left over money at the end of the month. Once you have finished your plan you can see how much you can realistically afford to pay each month. That amount should then determine how much you borrow and over what time period you pay it back.
What is a realistic repayment period for me?
Its very temping to opt for a long repayment period as it means you can either pay back a smaller amount each month or even choose increase the amount of money you borrow. However you should remember that the longer the term of the loan the more money you will pay back in total (interest and charges).The repayment table below demonstrates the extra cost of longer repayment periods.
However it's equally important to not end going for the shortest possible repayment period you can afford and leaving your monthly balance sheet at zero with no room for movement should you spend more than you budgeted for in any given month. So always be careful to allow for any surprises and make sure you leave enough money so that you can enjoy yourself from time to time.
Example repayment table (at 10%)
Repayment period 3 years 5 years 10 years
Amount borrowed £10,000.00 £10,000.00 £10,000.00
Total interest repaid £1,543.40 £2,621.60 £5,573.60
Monthly repayment £320.65 £210.36 £129.70 respectively
What are my other borrowing options?
Before taking out a personal loan you should always study what other options you have open to you to finance that purchase. If you have savings then it will definitely save you money to use the savings instead of paying interest on loans. Should using savings not be possible for you other forms of borrowing include the following.
Overdrafts. If you only need money for a relatively short period of time and only every now and again then you should consider an overdraft facility. Overdrafts are not recommended for medium and long term borrowing.
Credit Card. Credit Cards are another excellent form of short term lending. If you just need a bit of help from time too time then credit cards can be very handy and flexible. Most cards also offer cash back, 0% balance transfers for the first six months or low introductory rates. The typically higher APR of credit cards once the "offer" period expires means that they are not as cost effective as personal loans beyond the short term.
Re-Mortgage. Another option for homeowners is re-mortgaging their homes to unlock the capital tied up in the property and with the significant growth in house values of the last few years most people do now have significant equity in their home. Interest rates for this type of borrowing are normally low but it's worth remembering that you could be paying off your mortgage well into your previously planned retirement.
Should I go for a secured or unsecured loan?
Personal loans can be either secured or unsecured. A secured loan is secured on a major asset, usually the borrower's home. They are cheaper than unsecured loans but if you continually miss repayments (default on the loan agreement) you risk losing your home as it can be seized by the lender and sold to repay your debt, although this is usually a last resort for most lenders. Secured loans are commonly used when borrowing larger sums of money over a long period of time.
The other type of personal loan is an unsecured loan. If you don't have a home or pay a mortgage then you can only take out unsecured loans. Unsecured loans are usually available for smaller amounts (£500 - £15,000). These loans are more expensive because they are riskier for the lender as they can't repossess your house to recover the loan if anything goes wrong. Of course unsecured loans are also open to homeowners as well.
What do I need to know about interest rates?
In short the lower the annual percentage rate (APR) the better. However the amount of interest you pay on a loan depends on your credit rating. If you have a good rating then you are a safer bet for the loan company and can therefore enjoy a lower interest rate. It's also worth noting that the rates you see advertised are often only available for people with excellent credit ratings or who borrow a specified minimum amount.
Another common mistake is comparing loans based on interest rates. The interest rate on its own does not give the full picture as it doesn't include all charges. However help is at hand in the form of the annual percentage rate or APR, which is a calculation that allows consumers to benchmark and compare the cost of borrowing. APR takes into account both the interest rate you pay and any other fees charged by the loan provider. It also looks at when and how often interest and charges must be paid. So make sure you compare APR's when shopping around for the best deal and not the advertised interest rate.
How do I find the best loan company or loan broker?
Once you have answered all the other questions you are ready to start shopping around for the best value loan for your circumstances. Unless you get lucky first time then the only way to get the best loan is to do just that, shop around and compare rates. This is usually time consuming but often worthwhile as the difference from one lender to another is often in the hundreds. Loan Brokers claim to do the searching for you but are not necessarily the cheapest and sometimes have a large fee so make sure you check out lots of companies for yourself.
It's also worth remembering that the cheapest loan companies aren't always the best. So go with a company that you feel you can trust even if it costs you a little more. Some of the smaller and less ethical companies will provide a lower standard of customer service and possibly apply more charges than some of the more established lenders that have brand names to protect.
So off you go and get the best value loan you can find. Good Luck.
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