Even if you never plan on borrowing money for any reason, there are certain loan basics that everyone needs to know. As the old saying goes “it’s better to have the knowledge and not need it, then to need it and not have it.”
A core understanding of the basics principles and concepts of borrowing money is essential to maintaining strong finances. Before you take out any kind of loan, make sure to have a firm grasp on how the process works.
Loan Basics:
Regardless of what kind of loan it is and how much you borrow, there are three essentials to understanding loan basics
Interest
Also referred to as APR, this is the percentage of the borrowed amount that the lender charges you for borrowing.
Most times interest rates are fixed, meaning they do not change throughout the life of the loan. Variable or Adjustable interest rates can rise or fall based on market standards.
Security
Loans are either secured or unsecured.
A secured loan is one that you have assured to the lender by putting up your assets, or collateral. If the loan is not repaid, the lender gets to take your collateral.
An unsecured loan is not backed by anything and often times based solely on credit history. Lenders have to take a risk in making unsecured loans, which means the interest rates are often higher, and the application and vetting process more in depth.
Term Length
The term of a loan is the maximum amount of time a borrower has to repay the loan. This can range from days or weeks (payday loans) to decades (mortgages and student loans) and is established before the loan is agreed upon.
Often times loans with shorter terms have lower interest rates, and vice versa. Keep in mind every lender is different, so make sure these loan basics hold true with the lender you choose.