Choose The Type Of Loan That Fits Your Needs
"Loan" is the immediate option that comes to our mind when we are in need of money especially when the sum is huge. A loan is lump sum money borrowed with a commitment to pay back with interest within the stipulated time. Loans are offered to the public by the banks/lending institutions. These institutions offer myriad varieties of loans and financing options each varying in interest rate, term, etc. You will be overwhelmed by the loan options made available to you by your bank. Nevertheless, a complete study of common loan options helps you in making a wise decision about the type of loan you need to meet your requirement.
The loan amount and the interest offered by the bank largely depend on your income, credit history, credit score, debt, employment, etc. Let us get into the basic categories of loan offered by the banks.
1) Open-Ended Loans: These are the type of loans that you can borrow any number of times. Open-ended loans are the most versatile type of loan on the lending market. These flexible loans are usually offered for meeting day to day living, short-term expenditures, vacations, debt consolidation etc. The best examples of open-ended loans are credit cards/line of credit.
Open-ended loans set a credit limit, i.e. the maximum amount that a borrower can utilize at a time. The available credit decreases as and when the money is spent. The amount you spent is repaid the following month and interest charges apply in case of failure. You can obtain any number of credit cards from the bank. However, if you are already in possession of a credit card, it is wise to close your credit card before opening a new one to meet your needs. Possession of too many credit cards results in uncontrolled expenditure. End of the day, you would end up spending all your earnings in paying your credit bills as they carry heavy interest rates in case of any outstanding payments.
2) Close Ended Loans: Contrary to open-ended loans, close-ended loans are one-time loans that cannot be further borrowed or topped up over and over again. These are lump sum loans secured from the bank when you need a fixed amount of money. They are also called "installment loans" as the borrowers are mandatorily required to follow a regular payment schedule, usually monthly. The payment is made along with the interest that varies depending on the type of loan, tenure and the amount. The loan balance decreases as and when payments are made. Below are the common types of close-ended loans:
a) Mortgage Loan – This type of a loan is offered for purchasing fixed assets like land, building, etc. As the sum secured is huge, the term of repayment is extended over the years. The loan is repaid in fixed monthly installment along with the interest until the tenure. However, if you wish to close the loan early, you may do so by paying them in full.
b) Student Loan – This is exclusively for the students to meet their education expenditure including book fee, examination fee etc. Subsidized loans are offered to students who are in need of high financial needs where the government pays the interest on behalf of the student. In other cases, the interest rate can be fixed or floating depending on the loan amount, educational institution, tenure etc. Most banks offer a moratorium period during which the students are not required to pay the principal portion of the education loan. Generally, the repayment begins after the completion of course.
c) Auto Loan – Auto loans are secured for purchasing new or used vehicles. The term of repayment varies between 2 – 5 years depending on the value of vehicles and the interest rate differs based on the income, credit history of the borrower.
d) Personal Loan: Personal loans are often close-ended. They are mostly borrowed to pay the accumulated credit card balance or to meet the personal expenditure which may be for any purpose. The loan tenure varies based on the purpose.
3) Secured Loans: Loans offered to borrowers backed by a collateral security, generally the asset, is called secured loans. In the event of non-payment of a loan by the borrower, the lender has the right to seize the borrower's collateral asset and take possession of the same to cover the loan amount. The collateral asset of the borrower is appraised before securing the loan. In these cases, the lender normally extends the loan up to the value of the property. Higher the value of the property, higher the loan amount offered at a reasonable interest rate. Mostly, the personal/mortgage or specific purchase loans offered by the banks are secured loans as they are backed by some security/assets since the amount involved is huge.
4) Unsecured Loans: Unsecured loans are offered to the borrowers without any collateral security as a back-up. The lenders undergo a rough phase if the borrowers fail to repay the loan amount. Hence, it is for this reason, these loans carry a higher interest rate as compared to other loans. They are offered based on the credit history and the annual income of the borrower. The lender has to face loss in case of payment default by the borrower. However, a lender can file a lawsuit to recover the loan.
The above are the common categories of loan offered by the bank/lending institutions. Whenever you wish to obtain a loan, ensure you read the terms and conditions of the loan, the interest rate, tenure, and factors. Reading the agreement would give you a complete picture of your loan arrangement. You may proceed to secure a loan once you are fine with the terms and conditions.