Getting what you need when you need it can be a daunting task on the best of days. This is doubly true if what you need also happens to be expensive. Unfortunately, most of the best things in life fall into that category, be they basic necessities you need to get ahead or luxury items that make the daily grind worth it. Securing the funds for something like an education, a car, or a home requires a little bit more money than the average person has on hand. Unless you count yourself among the lucky rich who could buy one of those things out of pocket, you’re going to need to do what over half of everyone has had to do: borrow money through a loan. Sometimes, you just need a little bit of an extra helping hand to make your dreams come true, and sometimes that helping hand comes in the form of taking out money from a lender. So, now that you’ve decided to do that, now what?
There’s a lot that goes into borrowing money, and the unfortunate reality of the situation is that most people don’t understand it beyond the most foundational, basic level. With the price of everything skyrocketing, it doesn’t bode well for anybody that loans continue to be so widely misunderstood, both in theory and in practice. The consequences for this misunderstanding are dire and have real ramifications for the economy at large. You may remember the 2008 housing crash, where the entire market nearly went under and dragged the economy into a recession the likes of which the nation hadn’t seen in over a century. The reason for the crash was twofold: predatory lending practices, which we will see repeated later in this article, and a general misunderstanding of how borrowing money operates on the part of the borrowers.
This guide is here to address that lack of understanding. Here, we will explore three common kinds of loan and how they work, including how they differ from each other. You may be surprised to learn that there are over a dozen distinctly different kinds of debt that you can find yourself with, and all of them follow different rules. There are more resources that you can look into to further your understanding, which we will link to through this guide as necessary. For the purposes of this guide, we’ll be covering the most basic concepts that apply to borrowing money only. Read on and learn what you need to know to get started in this important financial system.
The Absolute Basics
Every loan has a few things in common. In fact, without these most basic elements they can’t properly be called a loan. Despite common misconception, not all kinds of borrowed money qualify for the label. For example, if you were to borrow some money from your best friend, it might not necessarily qualify. For this specific kind of debt you need, at the bare minimum, interest. Interest is the most fundamental element to a loan. It’s an extra amount of money you agree to pay back when you borrow. The amount you borrow is called the principal amount, and interest is the extra amount on top of that principle. For example, if you borrow $500 at a 10% interest rate, the total amount you will be obligated to pay back is $550: the original $500 plus 10% of that principal, or another $50.
This may sound simple, and it is in theory, but in practice there are other things that must be taken into consideration. One of those considerations is what kind of interest rate you’re paying back. The two kinds are variable, also called adjustable rates, and fixed or flat rates. Adjustable rates are the more complicated of the two. Under this kind of interest, the rate changes periodically (usually annually) to match a standardized market rate, called the Prime. There are literally hundreds of factors that go into determining what the Prime is at any given point in time, but factors like inflation usually mean your adjusted rate will be higher. A fixed rate, meanwhile, never changes.
Collateral is another factor that must be considered, though it is far more straightforward a concept, albeit with more devastating implications. If a loan is secured, that means it has a collateral asset that is also tied up in the repayment. If you default on your loan, the collateral becomes the possession of the lender. Usually, the subject of the debt acts as collateral, such as the car or house you’re borrowing money for. This way, the lender can be assured that even if you don’t pay the money you borrowed back they can still recover their losses. If you don’t have to put up any collateral, the debt is referred to as unsecured or asset free debt. This is riskier for the lender; if you don’t pay the money back, they take a total loss and have no means to recover it through other channels.
Personal Consumer Loans are Flexible
The most basic and flexible type of loan is also the most difficult to obtain. A personal consumer loan, often abbreviated to PCL, is a catch-all term that covers any kind of borrowing without a specific framework or goal in mind. That might sound a little misleading, as you’re going to be taking out a PCL for specific purposes, but those purposes are going to be different than the standardized debts for school, automobiles, homes, or other specific loan types. PCLs are used for anything you need to fund that isn’t an already structured loan, such as renovation or repair to your home, or a dream wedding. These things can run into the tens of thousands of dollars, and sometimes you just need a little extra money to make them happen. This writer personally took out a PCL to fund an anniversary vacation, and it was one of the best experiences of my life – an experience I would have missed out on were it not for the ability to finance it through a PCL.
There are things to keep in mind with PCLs, however. They aren’t magical cures to all your financial dreams, and they must be treated with respect like any other debt. Bear in mind that you hold none of the cards when going to apply for one, and that means most lenders will demand a higher interest rate. You can go to https://www.billigeforbrukslån.no/ for more information on how to take out a PCL safely and securely, including standard credit requirements. Most lenders require a high credit score to even qualify for a PCL.
Student Loans are Downright Evil
Under no circumstances should the smart borrower take out student loans, especially out of state student loans. The current economic climate has rendered them nothing short of predatory and, yes, even evil. Where once they were a method for people to get access to education and get ahead, they have changed into something more implicitly sinister that only serves to hold the educated back from success. As you can see here, the student debt crisis has grown out of control, reaching $1.76 trillion as of the time of this writing. The sad fact is that the market is not kind to people entering for the first time. A combination of stagnating wages, low base pay, and rising costs of living has made it almost impossible to pay back anything.
This has created a new trap on the financial scene called ballooning debt. The principal amount of a student loan is usually so high that the interest payment alone is prohibitively expensive, and paying the minimum payment – the only thing most borrowers can do thanks to the state of the market – is not enough to compensate. You might pay back $1000 per month, but interest causes the amount to rise by $1200 per month. That means that paying dutifully will only ever see the debt rise, and you will literally never be out from under it. Until the crisis is resolved, it’s best to avoid this kind of debt altogether.
Mortgages are Necessary
Mortgages, meanwhile, are a far safe and more easily payable kind of debt. This is because the rules for how mortgages can be granted and repaid have changed drastically in the past decade and a half. The 2008 housing crash changed the game substantially, inviting regulations that previously weren’t there in an attempt to forestall another crisis. Predatory lenders passed out loans that they knew the borrower couldn’t pay and, to simplify, this ruined the market completely. These kinds of loans were known as subprime, which means they were leant out to people who didn’t meet certain criteria common for eligibility. For example, some borrowers had lower credit scores or unfavorable repayment history, or no real means to make payments, but they were granted mortgages anyway with the understanding that if they defaulted the debt could be sold off to a third party. Too many banks engaged in this unethical practice, and the whole market crashed.
Now, they’re far more manageable for everyone involved, which is to your benefit. They’re universally secured by the house you’re borrowing for, which usually means lower interest rates for you. Expect variable interest rates after a shorter fixed period. Mortgages last for a long time; be prepared for contracts up to 30 years at minimum. Requirements for eligibility are stricter now, but certain government agencies were established to help those who might not otherwise be able to get a mortgage qualify through other means.
