When you need to borrow money, you should know what types of loans are available for you. Financial institutions offer loans to satisfy various needs, from funding home improvement to buying real estate.
Before you take out your own, you should know the different types of loans available.
Different Types of Loans
Loans differ in their repayment terms, loan amounts, and collateral requirements. You may get a lump sum from banks and credit unions, or you can borrow in increments over a set period.
Loans come with an interest rate, and they could stay constant or change due to several factors. Some loans might even require some of your assets as collateral to secure against credit risk.
Close-Ended Loans vs. Open-Ended Loans
You can be more accustomed to loans as lump sums used for heavy expenses. These are called close-ended loans, and they require a repayment period lasting months or years. It’s divided into several monthly payments that you must submit on time.
A prime example is small business loans that provide capital for startups.
These are particularly helpful for huge expenditures, such as tuition for college. You may use loans for a variety of reasons, but certain ones are intended for specific purposes. If you need to pay for smaller daily expenses, you’re better off using open-ended credit lines.
After all, close-ended loans perform lengthy application processes before handing close-ended loans.
Different types of loans include open-ended ones that allow you to borrow repeatedly over a set duration. Afterward, you must complete the unpaid balances during the repayment period. Credit card debts can be an example of open-ended loans, especially those that link to checking accounts.
People may use them to withdraw cash advances that must be repaid according to their bank’s terms.
On the other hand, you could consider using open-ended credit options. The typical example is the credit card as it allows people to quickly purchase with debt. Home equity lines of credit (HELOC) allow individuals to borrow from their equity. You only need to apply once, borrow within a few years, then repay afterward.
Unfortunately, reckless use of open-ended loans may cost you dearly in the long run. In fact, the Federal Reserve Bank of New York recorded a staggering $930 billion of credit card debt in late 2019.
Millions of Americans now suffer due to insurmountable amounts of debt. Beware of your loan terms and conditions, so you can keep yourself safe from future financial trouble.
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Fixed-Rate Loans vs. Variable-Rate Loans
You can classify loans according to the kind of interest rate they have. Those that have a consistent interest rate are called fixed-rate loans. Banks could raise or lower loan interest rates, so they can secure against changing market conditions.
If you get a fixed-rate loan though, it will retain the same interest rate throughout the life of the loan.
Different types of loans have fixed-rate options, such as personal loans. Some banks even offer fixed-rate credit cards, so you’ll pay a constant rate for interest. However, these are especially difficult to acquire since they usually require a good credit score.
Credit institutions want to make sure you can repay on time, so they limit them for creditworthy borrowers.
As we’ve mentioned, there are loans that have fluctuating interest rates. These are referred to as variable-rate loans, and they adjust according to economic conditions.
For instance, the Fed recently lowered mortgage rates in response to the coronavirus outbreak. This created an opportune moment to get home equity loans and mortgages.
Based on this example, you’ll notice that fixed-rate loans may still be disadvantageous. Those tied to a set interest rate might not be able to take advantage of lower rates. On the other hand, a fixed-rate could become favorable if rates increase again.
While these loans sway to the whims of the market, they can have easier application processes than closed-rate options.
Secured Loans vs. Unsecured Loans
Secured loans are backed by collateral to safeguard against credit risks. Collateral usually includes your possessions or a cash deposit, and they may be seized if you fail to pay diligently.
For example, you can take out an auto loan to obtain a vehicle. If you don’t repay on time, your vehicle could be repossessed as a penalty.
These are relatively easier to take out compared to unsecured loans due to the collateral. After all, your lender may just take your home if you don’t repay your real estate loan.
Obviously, your asset is the greatest risk when using secured loans. You should always pay these on time, or risk losing your home or your car.
Of course, different types of loans don’t need collateral, such as credit cards. These are unsecured loans, and you don’t risk losing your assets using them. There are also personal loans that have unsecured options available in certain banks.
As long as you meet the stringent requirements, unsecured loans are up for grabs.
Those strict requirements include an excellent credit rating though. If you have poor credit, you might have to find alternatives or raise your score before applying.
In addition, unsecured loans typically have higher interest rates than secured loans. Lenders may do this to compensate for the absence of collateral.
Which Loan has the Highest Interest Rate?
Loan interest rates depend on numerous factors, so it’s difficult to determine which has the highest rate. After all, you have to consider the huge number of credit providers.
Then, they have different loan options with distinct requirements and terms. Lastly, you could pay high interest depending on your credit score.
Banks want their borrowers to repay their loans on time, so they check their credit reports rigorously. If your credit history is a series of late payments, they may give you a bad credit rating. Otherwise, they could grant you a good credit score.
Lenders charge higher interest for people with bad credit since they pose a greater credit risk.
Final Thoughts
Banks and credit unions provide different types of loans to suit every need. You can borrow a hefty lump sum or increments within a certain duration.
They have loans that may charge a consistent or adjustable rate of interest. While many loans don’t require collateral, some could risk your house or your vehicle.
We recommend checking all your options before taking out a loan. Compare each viable option, and select which ones best suit your needs. They usually have representatives who are willing to discuss their bank’s options with clients.
Feel free to ask everything you need to know, so you can get the best loan for you.
FAQs About Loans
What happens when a loan account is closed?
It will be noted on your credit report, so it could harm your credit score. Be careful when closing an account, as it may harm credit score factors like the age of credit and credit utilization.
What is the danger of taking a variable rate loan?
They can arise due to changing market conditions. You could end up paying more every month if economic factors change.
What does a secured loan have that an unsecured loan does not?
A secured loan requires collateral, such may include a cash deposit or a client’s possessions, unlike unsecured loans. They could be seized if the client fails to repay on time.
Are secured loans easier to get?
Usually, secured loans are easier to acquire because of the collateral requirement. You should check other credit institutions for a wider range of alternatives.
