No matter how good you are at saving, sometimes life throws you a curve-ball and you may need to consider applying for a loan to help you out. But first, run through this list of considerations to be better informed about what you need before you sign on the dotted line.
Work out how much you need
It might seem like a simple question but working out how much you need is a really important first step. It’s important you do not borrow too much, as debt costs money and unnecessary debt is expensive. When you borrow money you are paying for the privilege of being able to use someone else’s money to fix your problems today. It may be tempting to borrow as much as you are offered by a lender but if you do, you could find yourself with debt that you may struggle to repay. Instead, have a figure in mind before you look for what is available and stick to it.
Similarly, there is a risk that you borrow too little! You may have been unrealistic with how much money you need and later find you need to take on more debt, perhaps on a more expensive loan, when you could have simply borrowed a realistic amount at the start of the process and saved yourself hassle and money.
What type of loan is most appropriate?
A secured loan is one held against your property. The most common types of secured loan are house loans (known as mortgages) and car loans. They are normally for more than £10,000 and if you fail to repay, the company who owns the loan can take away your property. As the debt is secured on property, it is less ‘risky’ for the lender so the interest rate is often lower than an unsecured loan.
An unsecured loan is a loan that is not secured against any property, but that does not mean you don’t have to pay it back! Unsecured loans are often smaller than £10,000, and typically have a higher interest rate than a secured loan.
A third type of loan is a guarantor loan. Whilst technically it is a type of unsecured loan, there is an element of security on the loan – the guarantor. A guarantor is someone who is also responsible for the loan if you can’t pay it. A guarantor loan is good for people who need a loan but can’t get one on their own: either they have a bad credit score, or they don’t fit other lending criteria. If you need a loan, can’t get one the traditional way, but have a friend or family member who is happy to act as guarantor, a guarantor loan could be the solution for you. One company that provides a guarantor loan is Trusttwo. If you do go this route, be sure to make sure the guarantor fully understands they are responsible for the loan if you can’t pay it for any reason. Don’t let debt ruin a relationship.
If you only need to borrow over a very short term – say 12 months or less – then you may be better off with a0% interest credit card, if you qualify for one. By making a purchase or balance transfer onto a 0% card you will have the length of the introductory offer in which to pay back the money you owe without paying any interest. Don’t be tempted to keep spending until you have cleared the balance however, because at the end of the 0% period you will be charged interest at a much higher typical rate.
Caution: If you make a transfer of the balance of an old credit card to a new card at a bonus rate or low rate, do NOT make purchases on the card. If you do, they are likely to have their own interest rate and any repayments you make to the card might not go to pay off the purchases but rather they might go on paying off the transferred balance. This could mean you may end up paying high interest on your purchases after all until you have paid off the balance-transfer amount.
Don’t Take the Advertised Rate at Face Value
Lenders often advertise an attractive ‘typical’ interest rate for the loan. However this is not a guaranteed rate and depending on your circumstances the loan could be more expensive than you might have initially thought. This is because most loans have what’s called ‘risk based pricing’. If you are a more risky individual in the eyes of the lender, you will pay more with a higher interest rate.
Improve your credit score
If you don’t need a loan straight away it could be worth trying to increase your credit score before applying for a loan. You can do this by reducing the amount of debt you have compared with how much debt you have access to, and ensuring your existing debt repayments are always on time. If you do these two things, over time your credit score will go up and the rates available to you next time you need a loan will be lower and therefore cheaper.