Denice R. Preston
Borrowed money is available for many purposes. It can fund a business or buy your fiancee an engagement ring. There are many loans available. How do you choose the right one? Here are the most popular types of loans and how they work.
Personal loans
Many banks offer personal loans online. The proceeds can buy a new 4K smart TV or pay bills. This loan is not unsecured and is, therefore, more expensive. The borrower does not have to put up collateral. A personal loan can typically be obtained from a few hundred to several thousand dollars with repayment terms of two to five years.
The borrower must provide proof of income and assets. The typical application takes only one page and is usually approved or denied within a few days.
The Best and Worst Rates
According to the Federal Reserve, the average interest rate on a 24-month commercial loan was 10.21% in the fourth quarter of 2019. People who cannot afford to suffer the worst have no choice but to do so.
A personal loan is the best option for those who need to borrow small amounts and can repay the loan within a few years. The personal loan calculator is a helpful tool to determine the best interest rate for you.
Bank Loan vs. Bank Guarantee
A bank loan does not equate to a bank guarantee. A bank can guarantee the surety to third parties on behalf of one of its customers. The bank can demand payment if the customer fails to meet the contractual obligations with the third party.
The guarantee is usually an arrangement for small-business clients of a bank. For example, a corporation might accept a bid from a contractor if the bank guarantees payment in case the contractor defaults.
A personal loan may be the best option for someone who can repay the loan within a few years and needs a small amount of money.
Credit Cards
A credit card payment is equivalent to a small personal loan. No interest is charged if the balance is paid off immediately. Interest is charged each month if any outstanding debt is not paid.
According to the Federal Reserve, the average credit card interest rate was 16.88% in the fourth quarter of 2019. This is slightly lower than the 19.14% rate in the second quarter of 2019 but nearly the same as at the end of 2018 (16.86%). 3 Penalty Rates for consumers who fail to make a payment can be bumped up to 31.49% on at most two HSBC Mastercards.
Revolving debt
A credit card is a revolving loan. This is the main difference between a personal loan and a credit card. A card comes with a credit limit. The owner can repeatedly borrow money to this limit and repay it over time.
Although credit cards can be very convenient, they require self-control to avoid overindulging. Research has shown that plastic is more likely to be used than cash, and consumers will spend more if they have it. With a one-page process, it is easy to apply for credit up to $5,000 or $10,000.
Home Equity Loans
Homeowners can borrow to offset the equity that they have in their homes. They can borrow as much as they own. They can borrow up to the amount they own if half of their mortgage is paid off. If the house’s value has increased by 50%, they can borrow this amount. The amount that can be borrowed is the difference between the current fair value of the house and the amount still owing on the mortgage.
Lower Rates and Greater Risks
The interest rate for a home equity loan is much lower than for a personal loan. ValuePenguin.com conducted a survey and found that the average interest rate on a 15-year fixed-rate home equity loan was 5.82% as of February 5, 2020. According to ValuePenguin.com, the average interest rate for a 15-year fixed-rate home equity loan was 5.82% as of February 5, 2020. This is due to changes made in the 2017 Tax Cuts and Jobs Act.
The house serves as collateral for the loan, which is the biggest risk. In default on a loan, the borrower could lose their house. A home equity loan proceeds can be used for any purpose but are most often used to improve or expand the home.
Two lessons from the 2008-2009’s financial crisis can be helpful to consumers who are considering home equity loans:
- Home values can go up or down.
- In an economic downturn, jobs are at risk.
Home Equity Lines of Credit (HELOCs).
The home equity line of credit ( ) functions like a credit card but uses your home as collateral. The borrower is allowed to obtain a maximum amount of credit. HELOCs can be used, repaid, and re-used for as long as the account remains open. This is usually 10 to 20 years.
The interest can be tax-deductible, just like a regular home equity loan. The interest rate on this loan is not fixed at the time it is approved, unlike regular home-equity loans. The interest rate is usually variable because the borrower could access the money at any point over many years. It could be tied to an underlying index such as the prime rates.
Good or Bad News
Variable interest rates can be either good news or bad news. The interest rates on any outstanding balance will rise during a time of rising rates. For example, a homeowner who borrows money for a kitchen installation and then pays it off over the years may end up paying more interest than expected. This is because the prime rate has risen.
Another potential drawback is the cost. There are other potential downsides. The credit lines available can be extremely large, and the introductory rates are attractive. Consumers can easily get carried away.
Credit Card Cash Advances
A cash advance option is usually included in credit cards. Anyone with a credit card can have a revolving cash line at any ATM (automatic teller machine).
This is a very expensive way to borrow money. This is a very expensive way to borrow money. Worse, the cash advance is added to the credit card balance and accrues interest every month until it is paid.
Other sources
Sometimes, cash advances can be obtained from other sources. Tax-preparation firms may offer cash advances in exchange for an anticipated Internal Revenue Service (IRS) tax refund. However, you don’t have to forfeit a portion of your tax refund unless it’s an emergency.
Small Business Loans
Most banks offer small business loans. The Small Business Administration is another option. Those who start new businesses or expand existing ones often seek these loans.
These loans can only be granted after the business owner submits a formal plan to be reviewed. The loan terms usually include a personal guarantee. This means that the business owner will be responsible for any defaults in repayment. These loans are typically extended for five to 25-year periods. Sometimes, interest rates can be reduced.
Many, if not all, fledgling companies have found the small-business loan invaluable. Creating a business plan and getting it approved can be difficult.
